Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

x

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended December 31, 2011

 

OR

 

o

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from                 to                  

 

 

Commission File Number 001-31558

 

BALLY TECHNOLOGIES, INC.

(Exact name of registrant as specified in its charter)

 

NEVADA

 

88-0104066

(State or other jurisdiction of incorporation or organization)

 

(I.R.S. Employer Identification No.)

 

6601 S. Bermuda Rd.

Las Vegas, Nevada  89119

(Address of principal executive offices)

 

(702) 584-7700

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  x Yes   o No

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  x Yes   o No

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large Accelerated Filer x

 

Accelerated Filer o

 

 

 

Non-Accelerated Filer o

 

Smaller Reporting Company o

(do not check if a smaller reporting company)

 

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). o Yes   x No

 

The number of shares of Common Stock, $0.10 par value, outstanding as of February 2, 2012, was 43,587,000 which do not include 18,545,000 shares held in treasury.

 

 

 



Table of Contents

 

TABLE OF CONTENTS

 

 

 

Page

PART I.

FINANCIAL INFORMATION

3

 

 

 

Item 1.

Financial Statements

3

 

 

 

 

Unaudited Condensed Consolidated Balance Sheets as of December 31, 2011 and June 30, 2011

3

 

 

 

 

Unaudited Condensed Consolidated Statements of Operations for the Three and Six Months Ended December 31, 2011 and 2010

4

 

 

 

 

Unaudited Condensed Consolidated Statements of Comprehensive Income for the Three and Six Months Ended December 31, 2011 and 2010

5

 

 

 

 

Unaudited Condensed Consolidated Statements of Stockholders’ Equity for the Six Months Ended December 31, 2011 and 2010

6

 

 

 

 

Unaudited Condensed Consolidated Statements of Cash Flows for the Six Months Ended December 31, 2011 and 2010

7

 

 

 

 

Notes to Unaudited Condensed Consolidated Financial Statements

9

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

25

 

 

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

34

 

 

 

Item 4.

Controls and Procedures

35

 

 

 

PART II.

OTHER INFORMATION

35

 

 

 

Item 1.

Legal Proceedings

35

 

 

 

Item 1A.

Risk Factors

35

 

 

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

35

 

 

 

Item 6.

Exhibits

36

 

 

 

SIGNATURES

 

37

 

2



Table of Contents

 

PART I

 

ITEM 1.                  FINANCIAL STATEMENTS

 

BALLY TECHNOLOGIES, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS

 

 

 

December 31,
2011

 

June 30,
 2011

 

 

 

(in 000s, except share amounts)

 

ASSETS

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

44,922

 

$

66,425

 

Restricted cash

 

9,768

 

8,419

 

Accounts and notes receivable, net of allowances for doubtful accounts of $13,293 and $11,059

 

231,121

 

235,246

 

Inventories

 

69,830

 

68,634

 

Prepaid and refundable income tax

 

13,258

 

36,332

 

Deferred income tax assets

 

29,043

 

29,318

 

Deferred cost of revenue

 

13,512

 

13,795

 

Prepaid assets

 

13,576

 

10,524

 

Other current assets

 

5,880

 

4,984

 

Total current assets

 

430,910

 

473,677

 

Restricted long-term investments

 

12,982

 

12,485

 

Long-term accounts and notes receivables, net of allowances for doubtful accounts of $1,267 and $507

 

51,729

 

46,659

 

Property, plant and equipment, net of accumulated depreciation of $54,843 and $51,570

 

30,532

 

33,266

 

Leased gaming equipment, net of accumulated depreciation of $186,375 and $176,137

 

115,375

 

96,691

 

Goodwill

 

168,609

 

162,110

 

Intangible assets, net

 

35,798

 

34,865

 

Deferred income tax assets

 

14,061

 

12,120

 

Income tax receivable

 

11,897

 

10,972

 

Deferred cost of revenue

 

20,334

 

23,193

 

Other assets, net

 

22,425

 

21,356

 

Total assets

 

$

914,652

 

$

927,394

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Accounts payable

 

$

30,500

 

$

38,411

 

Accrued and other liabilities

 

54,934

 

58,295

 

Customer deposits

 

9,130

 

4,930

 

Jackpot liabilities

 

9,832

 

11,894

 

Deferred revenue

 

35,192

 

28,900

 

Income tax payable

 

1,785

 

3,033

 

Current maturities of long-term debt

 

15,141

 

15,153

 

Total current liabilities

 

156,514

 

160,616

 

Long-term debt, net of current maturities

 

472,750

 

500,250

 

Deferred revenue

 

34,383

 

34,788

 

Other income tax liability

 

10,688

 

9,321

 

Other liabilities

 

17,110

 

7,827

 

Total liabilities

 

691,445

 

712,802

 

Commitments and contingencies (Note 8)

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

Special stock, 10,000,000 shares authorized: Series E, $100 liquidation value; 115 shares issued and outstanding

 

12

 

12

 

Common stock, $.10 par value; 100,000,000 shares authorized; 61,925,000 and 61,541,000 shares issued and 43,380,000 and 44,397,000 outstanding

 

6,186

 

6,149

 

Treasury stock at cost, 18,545,000 and 17,144,000 shares

 

(676,030

)

(634,268

)

Additional paid-in capital

 

454,666

 

442,713

 

Accumulated other comprehensive loss

 

(11,666

)

(3,064

)

Retained earnings

 

448,407

 

401,363

 

Total Bally Technologies, Inc. stockholders’ equity

 

221,575

 

212,905

 

Noncontrolling interests

 

1,632

 

1,687

 

Total stockholders’ equity

 

223,207

 

214,592

 

Total liabilities and stockholders’ equity

 

$

914,652

 

$

927,394

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

3



Table of Contents

 

 BALLY TECHNOLOGIES, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

 

 

 

Three Months Ended
December 31,

 

Six Months Ended
December 31,

 

 

 

2011

 

2010

 

2011

 

2010

 

 

 

(in 000s, except per share amounts)

 

Revenues:

 

 

 

 

 

 

 

 

 

Gaming equipment and systems

 

$

124,217

 

$

105,639

 

$

234,230

 

$

197,227

 

Gaming operations

 

86,240

 

77,087

 

171,194

 

156,307

 

 

 

210,457

 

182,726

 

405,424

 

353,534

 

Costs and expenses:

 

 

 

 

 

 

 

 

 

Cost of gaming equipment and systems (1)

 

54,073

 

43,030

 

101,174

 

79,987

 

Cost of gaming operations

 

23,858

 

22,692

 

48,090

 

44,914

 

Selling, general and administrative

 

61,304

 

55,185

 

118,526

 

106,799

 

Research and development costs

 

22,377

 

21,360

 

45,763

 

42,744

 

Depreciation and amortization

 

5,806

 

4,744

 

11,441

 

9,371

 

 

 

167,418

 

147,011

 

324,994

 

283,815

 

Operating income

 

43,039

 

35,715

 

80,430

 

69,719

 

Other income (expense):

 

 

 

 

 

 

 

 

 

Interest income

 

1,146

 

1,221

 

2,470

 

2,340

 

Interest expense

 

(4,485

)

(2,997

)

(9,082

)

(6,030

)

Other, net

 

(728

)

(323

)

(2,584

)

1,524

 

Income from continuing operations before income taxes

 

38,972

 

33,616

 

71,234

 

67,553

 

Income tax expense

 

(14,688

)

(6,347

)

(26,541

)

(18,632

)

Income from continuing operations

 

24,284

 

27,269

 

44,693

 

48,921

 

Loss on sale of discontinued operations, net of tax

 

 

 

 

(403

)

Net income

 

24,284

 

27,269

 

44,693

 

48,518

 

Less net income (loss) attributable to noncontrolling interests

 

16

 

17

 

33

 

(523

)

Net income attributable to Bally Technologies, Inc.

 

$

24,268

 

$

27,252

 

$

44,660

 

$

49,041

 

Basic earnings per share attributable to Bally Technologies, Inc.:

 

 

 

 

 

 

 

 

 

Income from continuing operations

 

$

0.57

 

$

0.51

 

$

1.03

 

$

0.93

 

Loss on sale of discontinued operations

 

 

 

 

(0.01

)

Basic earnings per share

 

$

0.57

 

$

0.51

 

$

1.03

 

$

0.92

 

 

 

 

 

 

 

 

 

 

 

Diluted earnings per share attributable to Bally Technologies, Inc.:

 

 

 

 

 

 

 

 

 

Income from continuing operations

 

$

0.54

 

$

0.49

 

$

0.99

 

$

0.89

 

Loss on sale of discontinued operations

 

 

 

 

(0.01

)

Diluted earnings per share

 

$

0.54

 

$

0.49

 

$

0.99

 

$

0.88

 

 

 

 

 

 

 

 

 

 

 

Weighted average shares outstanding:

 

 

 

 

 

 

 

 

 

Basic

 

42,870

 

53,291

 

43,296

 

53,485

 

Diluted

 

44,771

 

55,943

 

45,176

 

55,990

 

Amounts attributable to Bally Technologies, Inc.:

 

 

 

 

 

 

 

 

 

Income from continuing operations, net of tax

 

$

24,268

 

$

27,252

 

$

44,660

 

$

49,444

 

Loss on sale of discontinued operations, net of tax

 

 

 

 

(403

)

Net income

 

$

24,268

 

$

27,252

 

$

44,660

 

$

49,041

 

 


(1)        Cost of gaming equipment and systems exclude amortization related to certain intangibles, including core technology and license rights, which are included in depreciation and amortization.

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

4



Table of Contents

 

BALLY TECHNOLOGIES, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

 

 

 

Three Months Ended
December 31,

 

Six Months Ended
December 31,

 

 

 

2011

 

2010

 

2011

 

2010

 

 

 

(in 000s, except per share amounts)

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

24,284

 

$

27,269

 

$

44,693

 

$

48,518

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income (loss):

 

 

 

 

 

 

 

 

 

Foreign currency translation adjustment before income taxes

 

(1,174

)

(277

)

(3,184

)

895

 

Income tax expense

 

 

 

 

 

Foreign currency translation adjustment

 

(1,174

)

(277

)

(3,184

)

895

 

 

 

 

 

 

 

 

 

 

 

Unrealized gain (loss) on derivative financial instruments before income taxes

 

(163

)

685

 

(8,335

)

38

 

Income tax (expense) benefit

 

57

 

(240

)

2,917

 

(13

)

Unrealized gain (loss) on derivative financial instruments

 

(106

)

445

 

(5,418

)

25

 

 

 

 

 

 

 

 

 

 

 

Total other comprehensive income (loss), net of income taxes

 

(1,280

)

168

 

(8,602

)

920

 

Comprehensive income

 

23,004

 

27,437

 

36,091

 

49,438

 

Less: comprehensive income (loss) attributable to noncontrolling interests

 

16

 

17

 

33

 

(523

)

Comprehensive income attributable to Bally Technologies, Inc.

 

$

22,988

 

$

27,420

 

$

36,058

 

$

49,961

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

5



Table of Contents

 

BALLY TECHNOLOGIES, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

FOR THE SIX MONTHS ENDED DECEMBER 31, 2011 AND 2010

 

 

 

Common Stock

 

Series E
Special

 

Treasury

 

Additional
Paid-In

 

Accumulated
Other
Comprehensive
Income (Loss)

 

Retained

 

Noncontrolling

 

Total
Stockholders’

 

 

 

Shares

 

Dollars

 

Stock

 

Stock

 

Capital

 

(“OCI”)

 

Earnings

 

Interests

 

Equity

 

 

 

(in 000s)

 

Balances at June 30, 2010

 

59,495

 

$

5,943

 

$

12

 

$

(157,053

)

$

392,853

 

$

(3,044

)

$

303,100

 

$

2,381

 

$

544,192

 

Net income from continuing operations, net of tax

 

 

 

 

 

 

 

49,444

 

(523

)

48,921

 

Loss on sale of discontinued operations, net of tax

 

 

 

 

 

 

 

(403

)

 

(403

)

Foreign currency translation adjustment

 

 

 

 

 

 

895

 

 

 

895

 

Unrealized gain on derivative financial instruments, net of tax

 

 

 

 

 

 

25

 

 

 

25

 

Total comprehensive income

 

 

 

 

 

 

 

 

 

$

49,438

 

Distributions to noncontrolling interests

 

 

 

 

 

 

 

 

(148

)

(148

)

Issuance and receipt of restricted stock, ESPP shares, stock options and related tax and tax benefit

 

368

 

32

 

 

(1,721

)

5,072

 

 

 

 

3,383

 

Purchase of common stock for treasury

 

 

 

 

(40,584

)

 

 

 

 

(40,584

)

Share-based compensation

 

 

 

 

 

6,646

 

 

 

 

6,646

 

Balances at December 31, 2010

 

59,863

 

$

5,975

 

$

12

 

$

(199,358

)

$

404,571

 

$

(2,124

)

$

352,141

 

$

1,710

 

$

562,927

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balances at June 30, 2011

 

61,541

 

$

6,149

 

$

12

 

$

(634,268

)

$

442,713

 

$

(3,064

)

$

401,363

 

$

1,687

 

$

214,592

 

Net income from continuing operations, net of tax

 

 

 

 

 

 

 

44,660

 

33

 

44,693

 

Foreign currency translation adjustment

 

 

 

 

 

 

(3,184

)

 

 

(3,184

)

Unrealized loss on derivative financial instruments, net of tax

 

 

 

 

 

 

(5,418

)

 

 

(5,418

)

Total comprehensive income

 

 

 

 

 

 

 

 

 

$

36,091

 

Distributions to noncontrolling interests

 

 

 

 

 

 

 

 

(88

)

(88

)

Cumulative effect of adoption of ASU 2010-16 for change in jackpot accounting

 

 

 

 

 

 

 

2,384

 

 

2,384

 

Issuance and receipt of restricted stock, ESPP shares, stock options and related tax and tax benefit

 

384

 

37

 

 

(831

)

4,671

 

 

 

 

3,877

 

Purchase of common stock for treasury

 

 

 

 

(40,931

)

 

 

 

 

(40,931

)

Share-based compensation

 

 

 

 

 

7,282

 

 

 

 

7,282

 

Balances at December 31, 2011

 

61,925

 

$

6,186

 

$

12

 

$

(676,030

)

$

454,666

 

$

(11,666

)

$

448,407

 

$

1,632

 

$

223,207

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

6



Table of Contents

 

BALLY TECHNOLOGIES, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

 

 

 

Six Months Ended
December 31,

 

 

 

2011

 

2010

 

 

 

(in 000s)

 

Cash flows from operating activities:

 

 

 

 

 

Net income

 

$

44,693

 

$

48,518

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

Loss on sale of discontinued operations, net of tax

 

 

403

 

Depreciation and amortization

 

41,193

 

36,605

 

Share-based compensation

 

7,282

 

6,646

 

Amortization of deferred debt issuance costs

 

880

 

1,947

 

Income tax (benefit) expense

 

1,212

 

2,723

 

Provision for doubtful accounts

 

5,211

 

1,694

 

Inventory write-downs

 

2,573

 

1,498

 

Excess tax benefit of stock option exercises

 

(692

)

(1,268

)

Other

 

(559

)

(211

)

Change in operating assets and liabilities:

 

 

 

 

 

Accounts and notes receivable

 

(5,393

)

(6,287

)

Inventories

 

(52,738

)

(46,817

)

Prepaid and refundable income tax and income tax payable

 

21,588

 

(8,641

)

Other current assets

 

(4,956

)

(3,225

)

Accounts payable

 

(7,844

)

3,290

 

Accrued liabilities, customer deposits and jackpot liabilities

 

280

 

(4,916

)

Deferred revenue and deferred cost of revenue

 

9,126

 

(2,921

)

Net cash provided by operating activities

 

61,856

 

29,038

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

Acquisition

 

(6,000

)

 

Capital expenditures

 

(3,881

)

(5,222

)

Restricted cash and investments

 

(1,846

)

1,347

 

Financing arrangements with customers

 

 

(9,940

)

Additions to other long-term assets

 

(4,777

)

(4,360

)

Net cash used in investing activities

 

(16,504

)

(18,175

)

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

Proceeds from revolving credit facility

 

 

19,880

 

Payments on revolving credit facility

 

(20,000

)

 

Capitalized debt issuance costs

 

 

(158

)

Reduction of long-term debt

 

(7,520

)

(20,016

)

Distributions to noncontrolling interests

 

(88

)

(148

)

Purchase of treasury stock

 

(41,762

)

(42,305

)

Excess tax benefit of stock option exercises

 

692

 

1,268

 

Proceeds from exercise of stock options and employee stock purchases

 

4,094

 

4,077

 

Net cash used in financing activities

 

(64,584

)

(37,402

)

 

 

 

 

 

 

Effect of exchange rate changes on cash

 

(2,271

)

1,428

 

 

 

 

 

 

 

Net cash used in operating activities of discontinued operations

 

 

(403

)

 

 

 

(403

)

Cash and cash equivalents:

 

 

 

 

 

Decrease for period

 

(21,503

)

(25,514

)

Balance, beginning of period

 

66,425

 

145,089

 

Balance, end of period

 

$

44,922

 

$

119,575

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

7



Table of Contents

 

BALLY TECHNOLOGIES, INC. AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED SUPPLEMENTAL CASH FLOW INFORMATION

 

The following supplemental information is related to the unaudited condensed consolidated statements of cash flows:

 

 

 

Six Months Ended
December 31,

 

 

 

2011

 

2010

 

 

 

(in 000s)

 

Cash paid for interest

 

$

8,807

 

$

6,030

 

Cash paid for income taxes, net of refunds

 

14,666

 

22,673

 

 

 

 

 

 

 

Non-cash investing and financing transactions:

 

 

 

 

 

Transfer of inventory to leased gaming equipment (1)

 

$

58,200

 

$

43,897

 

Reclassify property, plant and equipment to inventory (1)

 

7,705

 

8,138

 

Liabilities assumed in acquisition

 

2,830

 

 

 


(1)                                  As a result of the inability to separately identify the cash flows associated with the construction of leased gaming equipment, the Company has included all additions to leased gaming equipment as an increase in inventory under cash used in operating activities in the unaudited condensed consolidated statement of cash flows. In addition, cash generated from the sale of used gaming equipment classified as leased gaming equipment is also included in cash provided by operating activities in the unaudited condensed consolidated statement of cash flows. The Company has one process to procure raw materials for the assembly of both inventory and leased gaming equipment. The materials requisition planning process considers the number of devices the Company expects to build for sale and for use in its gaming operations division during a particular period, but it does not separately earmark purchases for leased gaming equipment. Without such an earmarking process, the Company is unable to determine whether the parts used to construct leased gaming equipment during a particular period came from inventory on hand at the beginning of the period or was constructed from inventory procured during the period of deployment, thus requiring the expenditure of cash.

 

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Table of Contents

 

BALLY TECHNOLOGIES, INC. AND SUBSIDIARIES

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

1.             DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Bally Technologies, Inc. (“Bally” or the “Company”), a Nevada corporation, is a diversified, worldwide gaming company that innovates, designs, manufactures, operates and distributes advanced technology-based gaming devices, systems and server-based solutions, as well as interactive and mobile solutions. As a global gaming-systems provider, the Company offers technology solutions which provide gaming operators with a wide range of marketing, data management and analysis, accounting, player tracking, security and other software applications and tools to more effectively manage their operations. The Company’s primary hardware technologies include spinning-reel and video gaming devices, specialty gaming devices and wide-area progressive systems for traditional land-based, riverboat and Native American casinos, video lottery and central determination markets and specialized system-based hardware products. In addition to selling its gaming devices, the Company also offers its customers a wide range of rental options.

 

Principles of presentation and consolidation

 

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and, pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”), include all adjustments necessary to fairly present the Company’s consolidated financial position, results of operations and cash flows for each period presented. All adjustments are of a normal, recurring nature. Certain information and note disclosures normally included in annual financial statements prepared in accordance with U.S. GAAP have been condensed or omitted pursuant to those rules and regulations. The results of operations for an interim period are not necessarily indicative of the results that may be expected for any other interim period or the year as a whole. The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto in the Company’s Annual Report on Form 10-K for the fiscal year ended June 30, 2011. References to specific U.S. GAAP within this report cite topics within the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”).

 

All intercompany accounts and transactions have been eliminated in consolidation.

 

Discontinued Operations

 

The Company was the general partner of Rainbow Casino Vicksburg Partnership (“RCVP”), which operated the Rainbow Casino, a dockside riverboat casino in Vicksburg, Mississippi. On April 5, 2010, the Company entered into a definitive purchase agreement to sell the Rainbow Casino which closed on June 8, 2010. Per the terms of the sale agreement, the Company had certain post-closing adjustments during fiscal 2011 which reduced its gain on the sale of the Rainbow Casino by approximately $0.4 million, net of income taxes.

 

Use of estimates

 

The preparation of the unaudited condensed consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the unaudited condensed consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

 

Fair value of financial instruments

 

The fair value of a financial instrument is the amount at which the instrument could be exchanged in a current transaction between willing parties, other than in a forced sale or liquidation. The carrying amounts reflected in the accompanying unaudited condensed consolidated balance sheets for cash equivalents, accounts and notes receivable, investment securities to fund jackpot liabilities, accounts payable, jackpot liabilities and long-term debt approximate their respective fair values.

 

All financial assets and liabilities are recognized or disclosed at fair value using a fair value hierarchy that maximizes the use of observable inputs and minimizes the use of unobservable inputs when measuring fair value. A financial instrument’s categorization within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement. There are three levels of inputs that may be used to measure fair value:

 

·                  Level 1:  quoted prices in active markets for identical assets or liabilities;

 

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·                  Level 2:  inputs other than Level 1 that are observable, either directly or indirectly, such as quoted prices in active markets for similar assets or liabilities, quoted prices for identical or similar assets or liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities; or

 

·                  Level 3:  unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.

 

The Company transacts business in various foreign currencies and has international sales and expenses denominated in foreign currencies, subjecting the Company to foreign currency risk. The Company may enter into foreign currency forward contracts, generally with maturities of twelve months or less, to hedge recognized foreign currency assets and liabilities to reduce the risk that earnings and cash flows will be adversely affected by changes in foreign currency exchange rates. The gains or losses resulting from changes in the fair value of these forward contracts, which are not designated as accounting hedges, are reported in other income (expense) in the unaudited condensed consolidated statements of operations, and generally offset the gains and losses associated with the underlying foreign-currency-denominated balances, which are also reported in other income (expense). As of December 31, 2011, total outstanding forward contracts consisted of three sell EUR forwards and one sell ZAR forward for a total value of $34.6 million, or the notional equivalent of €25 million and 18 million ZAR, respectively.

 

The Company may use interest rate derivatives to manage the interest expense generated by variable rate debt and foreign currency derivatives to manage foreign exchange risk. The Company’s derivative financial instruments are measured at fair value on a recurring basis, and the balances were as follows:

 

 

 

Fair Value Measurements
Using Input Type

 

 

 

Level 1

 

Level 2

 

Level 3

 

 

 

(in 000s)

 

As of December 31, 2011:

 

 

 

 

 

 

 

Assets:

 

 

 

 

 

 

 

Other current assets:

 

 

 

 

 

 

 

Foreign currency derivative financial instrument

 

$

 

$

2,930

 

$

 

Liabilities:

 

 

 

 

 

 

 

Accrued and other liabilities:

 

 

 

 

 

 

 

Foreign currency derivative financial instrument

 

$

 

$

14

 

$

 

Interest rate derivative financial instruments

 

$

 

$

4,350

 

$

 

Other liabilities:

 

 

 

 

 

 

 

Interest rate derivative financial instrument

 

$

 

$

7,888

 

$

 

 

 

 

 

 

 

 

 

As of June 30, 2011:

 

 

 

 

 

 

 

Assets:

 

 

 

 

 

 

 

Other assets, net:

 

 

 

 

 

 

 

Foreign currency derivative financial instrument

 

$

 

$

452

 

$

 

Interest rate derivative financial instruments

 

$

 

$

1,231

 

$

 

Liabilities:

 

 

 

 

 

 

 

Accrued and other liabilities:

 

 

 

 

 

 

 

Foreign currency derivative financial instrument

 

$

 

$

586

 

$

 

Interest rate derivative financial instruments

 

$

 

$

5,133

 

$

 

 

The valuation techniques used to measure the fair value of the derivative financial instruments above in which the counterparties have high credit ratings, were derived from pricing models, such as discounted cash flow techniques, with all significant inputs derived from or corroborated by observable market data. The Company’s discounted cash flow techniques use observable market inputs, such as LIBOR-based yield curves and foreign currency forward rates. See Note 4 to unaudited condensed consolidated financial statements, Long-Term Debt.

 

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Table of Contents

 

Accounting for Derivative Instruments and Hedging Activity

 

The Company assesses, both at the inception of each designated hedge and on an on-going basis, whether the derivatives that are used in hedging transactions are highly effective in offsetting changes in cash flows of the hedged items. Such highly effective derivatives are granted hedge accounting treatment. The interest rate derivative instruments meet these requirements and are accounted for as cash flow hedges.

 

The impact of the cash flow hedge and non-designated foreign currency derivatives on the unaudited condensed consolidated financial statements is depicted below:

 

Fiscal year 2012

 

 

 

Amount of Loss
Recognized in OCI on
Derivative (Effective Portion)

 

 

 

Amount of Loss
Reclassified from Accumulated
OCI into Income (Effective
Portion)

 

 

 

Three Months
Ended

 

Six Months
Ended

 

Location of Loss
Reclassified from Accumulated

 

Three Months
Ended

 

Six Months
Ended

 

Derivative in Cash Flow Hedging
Relationship

 

December 31,
2011

 

December 31,
2011

 

OCI into Income (Effective
Portion)

 

December 31,
2011

 

December 31,
2011

 

 

 

(in 000s)

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest rate swap agreement

 

$

(1,440

)

$

(10,961

)

Interest expense

 

$

(1,276

)

$

(2,625

)

 

Fiscal year 2011

 

 

 

Amount of Gain (Loss)
Recognized in OCI on
Derivative (Effective Portion)

 

 

 

Amount of Loss
Reclassified from Accumulated
OCI into Income (Effective
Portion)

 

 

 

Three Months
Ended

 

Six Months
Ended

 

Location of Loss
Reclassified from Accumulated

 

Three Months
Ended

 

Six Months
Ended

 

Derivative in Cash Flow Hedging
Relationship

 

December 31,
2010

 

December 31,
2010

 

OCI into Income (Effective
Portion)

 

December 31,
2010

 

December 31,
2010

 

 

 

(in 000s)

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest rate swap agreement

 

$

9

 

$

(1,240

)

Interest expense

 

$

(675

)

$

(1,277

)

 

 

 

Amount of Gain Recognized
in Other Income (Expense)

 

 

 

Three Months
Ended

 

Six Months
Ended

 

Three Months
Ended

 

Six Months
Ended

 

Non-Designated Derivative

 

December 31,
2011

 

December 31,
2011

 

December 31,
2010

 

December 31,
2010

 

 

 

 

 

 

 

 

 

 

 

Foreign Currency Forward Contract

 

$

1,361

 

$

2,915

 

$

 

$

 

 

Accounts and Notes Receivable, Allowance for Doubtful Accounts and Credit Quality of Financing Receivables

 

Accounts and notes receivable are stated at face value less an allowance for doubtful accounts. The Company generally grants customers credit terms for periods of 30 to 120 days, but may also grant extended payment terms to some customers for periods up to three years, with interest generally at market rates.

 

Trade receivables with contract terms greater than one year relate to the sale of gaming equipment and systems transactions, and are generally collateralized by the related equipment sold, although the value of such equipment, if repossessed, may be less than the receivable balance outstanding. Sales-type leasing arrangements relate to gaming equipment and include options to purchase the equipment at the end of the lease term at established prices. Customers with sales-type leasing arrangements typically have a long-standing credit history with the Company. Revenue from these lease arrangements is not significant.

 

The Company has also provided development financing to certain customers in the form of notes receivable with repayment terms of three to ten years. These notes may also include accelerated payment terms based upon a percentage of net-win from gaming devices sold or leased to these customers.

 

The Company has one portfolio segment, the casino industry customer, and four classes of receivables including its trade receivables with a contract term less than one year, trade receivables with a contract term greater than one year, sales-type leasing arrangements, and notes receivable, which are for developmental financing loans.

 

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Table of Contents

 

The Company’s accounts and notes receivable were as follows:

 

 

 

Accounts and Notes Receivable
as of December 31, 2011

 

Accounts and Notes Receivable
as of June 30, 2011

 

 

 

Ending
Balance

 

Ending
Balance
Individually
Evaluated for
Impairment

 

Ending Balance
Collectively
Evaluated for
Impairment

 

Ending
Balance

 

Ending Balance
Individually
Evaluated for
Impairment

 

Ending Balance
Collectively
Evaluated for
Impairment

 

 

 

(in 000s)

 

Contract term less than one year:

 

 

 

 

 

 

 

 

 

 

 

 

 

Trade and other receivables, current

 

$

145,806

 

$

4,811

 

$

140,995

 

$

162,202

 

$

2,064

 

$

160,138

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Contract term greater than one year:

 

 

 

 

 

 

 

 

 

 

 

 

 

Trade receivables, current

 

81,447

 

20,163

 

61,284

 

72,237

 

3,973

 

68,264

 

Trade receivables, noncurrent

 

24,350

 

978

 

23,372

 

15,111

 

213

 

14,898

 

 

 

105,797

 

21,141

 

84,656

 

87,348

 

4,186

 

83,162

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Lease receivables, current

 

12,913

 

12,913

 

 

10,245

 

10,245

 

 

Lease receivables, noncurrent

 

14,155

 

14,155

 

 

13,490

 

13,490

 

 

 

 

27,068

 

27,068

 

 

23,735

 

23,735

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Notes receivable, current

 

4,248

 

4,248

 

 

1,621

 

1,621

 

 

Notes receivable, noncurrent

 

14,491

 

14,491

 

 

18,565

 

18,565

 

 

 

 

18,739

 

18,739

 

 

20,186

 

20,186

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current

 

244,414

 

42,135

 

202,279

 

246,305

 

17,903

 

228,402

 

Total noncurrent

 

52,996

 

29,624

 

23,372

 

47,166

 

32,268

 

14,898

 

Total

 

$

297,410

 

$

71,759

 

$

225,651

 

$

293,471

 

$

50,171

 

$

243,300

 

 

The activity related to the allowance for doubtful accounts is summarized below:

 

 

 

Allowance for Doubtful Accounts

 

 

 

Beginning
Balance
as of
June 30,
2011

 

Charge-
offs

 

Recoveries

 

Provision

 

Ending
Balance
as of
December 31,
2011

 

Ending
Balance
Individually
Evaluated for
Impairment

 

Ending
Balance
Collectively
Evaluated for
Impairment

 

 

 

(in 000s)

 

Contract term less than one year:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Trade and other receivables, current

 

$

(5,875

)

$

585

 

$

229

 

$

(963

)

$

(6,024

)

$

(2,660

)

$

(3,364

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Contract term greater than one year:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Trade receivables, current

 

(5,184

)

336

 

26

 

(2,447

)

(7,269

)

(4,530

)

(2,739

)

Trade receivables, noncurrent

 

(507

)

1,041

 

 

(1,801

)

(1,267

)

(509

)

(758

)

 

 

(5,691

)

1,377

 

26

 

(4,248

)

(8,536

)

(5,039

)

(3,497

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Lease receivables, current

 

 

 

 

 

 

 

 

Lease receivables, noncurrent

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Notes receivable, current

 

 

 

 

 

 

 

 

Notes receivable, noncurrent

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current

 

(11,059

)

921

 

255

 

(3,410

)

(13,293

)

(7,190

)

(6,103

)

Total noncurrent

 

(507

)

1,041

 

 

(1,801

)

(1,267

)

(509

)

(758

)

Total

 

$

(11,566

)

$

1,962

 

$

255

 

$

(5,211

)

$

(14,560

)

$

(7,699

)

$

(6,861

)

 

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The Company evaluates the credit quality of its accounts and notes receivable and establishes an allowance for doubtful accounts based on a combination of factors including, but not limited to, customer collection experience, economic conditions, and the customer’s financial condition. In addition to specific account identification, which includes the review of any modifications of accounts and notes receivable, if applicable, the Company utilizes historic collection experience for the most recent twelve month period to establish an allowance for doubtful accounts. Receivables are written off only after the Company has exhausted all collection efforts.

 

Gaming is a highly regulated industry requiring customers to obtain a gaming operator’s license and verify with the applicable regulatory agency that they have the financial resources to operate a gaming establishment. Many of the Company’s customers, including new casinos that have opened in recent years, are owned by existing multi-property customers that have established a favorable payment history with the Company. Customer accounts typically include a mix of trade receivables balances with terms for periods of 30 to 120 days and financing receivables resulting from extended payment terms.

 

The Company monitors the credit quality of its accounts receivable by reviewing an aging of customer invoices. Invoices are considered past due if a scheduled payment is not received within contractually agreed upon terms. The Company’s notes receivable are reviewed quarterly, at a minimum, for impairment. The Company also reviews a variety of other relevant qualitative information such as collection experience, economic conditions and specific customer financial conditions to evaluate credit risk in recording the allowance for doubtful accounts or as an indicator of an impaired loan.

 

The Company accrues interest, if applicable, on its accounts and notes receivables per the terms of the agreement. Interest is not accrued on certain past due accounts and notes receivable, or individual amounts that the Company has determined and specifically identified as not collectible. The following summarizes the aging of past due receivables, excluding trade accounts receivable with a contract term less than one year, as of December 31, 2011:

 

 

 

1 to 90 Days
Past Due

 

91 to 180 Days
Past Due

 

181 + Days
Past Due

 

Total
Past Due

 

Current

 

Total
Receivable

 

Recorded
Investment
in
Receivables
on
Nonaccrual
Status

 

Recorded
Investment
90 Days and
Accruing

 

 

 

(in 000s)

 

Trade receivables

 

$

8,124

 

$

3,290

 

$

6,768

 

$

18,182

 

$

87,615

 

$

105,797

 

$

5,039

 

$

 

Lease receivables

 

 

 

 

 

27,068

 

27,068

 

 

 

Notes receivable

 

240

 

79

 

 

319

 

18,420

 

18,739

 

3,000

 

 

Total

 

$

8,364

 

$

3,369

 

$

6,768

 

$

18,501

 

$

133,103

 

$

151,604

 

$

8,039

 

$

 

 

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The aging of customer invoices is based on their contractually agreed upon payment terms, which in certain rare circumstances have been modified from the original financing terms. The modifications of original financing terms are infrequent and generally do not represent a concession as they result only in a delay of payment that is typically insignificant and not material to our total trade, lease and notes receivable balances. There were no significant modifications of accounts and notes receivable during the current period.

 

As of December 31 and June 30, 2011, respectively, the Company had no impaired loans in its accounts and notes receivable balances.

 

The fair value of accounts and notes receivable, net, is estimated by discounting expected future cash flows using current interest rates at which similar loans would be made to borrowers, with similar credit ratings and remaining maturities. As of December 31 and June 30, 2011, respectively, the fair value of the accounts and notes receivable, net, approximate the carrying value.

 

Inventories

 

Inventories are stated at the lower of cost, determined on a first in, first out basis, or market. Cost elements included in work-in-process and finished goods include raw materials, direct labor and manufacturing overhead. Inventories consist of the following:

 

 

 

December 31,
2011

 

June 30,
2011

 

 

 

(in 000s)

 

Raw materials

 

$

49,581

 

$

53,926

 

Work-in-process

 

533

 

1,630

 

Finished goods

 

19,716

 

13,078

 

Total

 

$

69,830

 

$

68,634

 

 

Revenue recognition

 

The Company’s revenue recognition policy is to record revenue when all of the following criteria have been satisfied:

 

·                  Persuasive evidence of an arrangement exists;

 

·                  The price or fee to the customer is fixed or determinable;

 

·                  Collectability is reasonably assured;

 

·                  Delivery has occurred; and

 

·                  No significant contractual obligations remain.

 

Revenues are reported net of incentive rebates, discounts, sales taxes, and other taxes of a similar nature. For products sold under arrangements with extended payment terms the probability of collection is evaluated based on a review of the customer’s credit worthiness and a review of historic collection experience on contracts with extended payment terms. As a result of such review, the Company recognizes revenue on extended payment term arrangements as the Company has determined that collectability is reasonably assured and the fees are fixed and determinable.

 

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Table of Contents

 

Games placed with customers on a trial basis are not recognized as revenue until the trial period ends, the customer accepts the games and all other relevant criteria have been met. Amounts billed to customers prior to completing the earnings process are deferred until the revenue recognition criteria are met.

 

Effective July 1, 2009, the Company adopted new accounting guidance related to revenue recognition for multiple deliverable arrangements and certain revenue arrangements that include software elements. The Company elected to adopt this guidance prior to the required effective date using the prospective method. Accordingly, this guidance was applied to all new or materially modified revenue arrangements entered into since the start of the Company’s fiscal year of adoption, which was July 1, 2009.

 

Prior to the adoption of the new revenue recognition guidance, gaming equipment and systems revenue was recognized in accordance with software revenue recognition guidance. The new guidance amended the scope of software revenue recognition to exclude all tangible products containing both software and nonsoftware components that function together to deliver the product’s essential functionality. As a result of applying the new guidance, certain products that were previously accounted for under the scope of software revenue recognition guidance are no longer accounted for as software.

 

Gaming Operations Revenue.  Gaming operations revenue consists of the operation of linked progressive systems and the rental of gaming devices, game content and the related systems placed with customers. Fees under these arrangements are earned and recognized based on a share of money wagered, a share of the net winnings, or on a fixed daily rate. The daily fee entitles the customer to full use of the gaming device and includes maintenance, licensing of the game content software and connection to a linked progressive system, where applicable. In certain markets, the Company also charges a daily system connection fee for the customer to connect to a central determination system and/or back-office system. The Company does not consider these arrangements to have multiple revenue-generating activities as the services offered are a comprehensive solution in exchange for a daily fee and all of the products and services are delivered simultaneously. Gaming operations revenue is recognized under general revenue recognition guidance as the deliverables provide the customer with rights to use tangible gaming devices and software that is essential to the functionality of the gaming device.

 

Gaming Equipment Revenue.  Gaming Equipment revenue is generated from the sale of gaming devices and licensing rights to game content software that is installed in the gaming device, parts, and other ancillary equipment. Arrangements may also include sales of game content conversion kits which enable customers to replace game content without purchasing a new gaming device. Gaming equipment arrangements do not include maintenance and product support fees beyond a standard warranty period. The recognition of revenue from the sale of gaming devices occurs as title and risk of loss have passed to the customer and all other criteria have been satisfied.

 

As the combination of game content software and the tangible gaming device function together to deliver the product’s essential functionality, revenue from the sale of gaming devices is recognized under general revenue recognition guidance. Prior to July 1, 2009, gaming devices were recognized under software revenue recognition guidance. Game content conversion kits are considered software deliverables and are recognized in accordance with software revenue recognition guidance.

 

Systems Revenue.  Systems revenue arrangements generally include a combination of systems software licenses, systems-based hardware products, maintenance and product support fees and professional services. The primary function of systems software licensed by the Company is to aid customers to more effectively run their business with marketing, data management and analysis, accounting, player tracking and security features.

 

Revenue for systems software and maintenance and product support fees is recognized under software revenue recognition guidance. Although the systems software and certain systems-based hardware function together, the primary functionality of the systems software is derived from the software and the systems software is not essential to the functionality of the systems-based hardware.

 

The Company licenses systems software on a perpetual basis or under time-based licenses. Revenue from perpetual license software is recognized at the inception of the license term if all revenue recognition criteria have been met. Revenue from maintenance and product support fees sold with perpetual licenses is recognized over the term of the support period. The Company’s time-based licenses are generally for twelve month terms and are bundled with software maintenance and product support fees. All revenue from such arrangements is recognized over the term of the license.

 

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Systems-based hardware includes embedded software that is essential to the functionality of the hardware. Accordingly, revenue related to all systems-based hardware sales and related maintenance and product support fees are recognized under general revenue recognition guidance. Prior to July 1, 2009, systems- based hardware was recognized under software revenue recognition guidance. Revenue from the sale of systems-based hardware is generally recognized upon delivery when title and risk of loss have passed to the customer and all other revenue recognition criteria are met. However, in the case of arrangements involving a systems installation, revenue on the systems-based hardware is generally not recognized until the system has been installed and the customer has accepted the system. Hardware maintenance and product support fees are recognized during the term of the support period which is generally 12 months.

 

Software maintenance and product support provides customers with rights to unspecified software product upgrades, maintenance and patches released during the term of the support period. The Company’s software maintenance and product support arrangements are generally for 12 month periods. Software maintenance and product support is recognized on a straight-line basis over the term of the support period.

 

Multiple Element Arrangements.  The Company enters into revenue arrangements that may consist of multiple deliverables of its products and services. Customers may enter into arrangements with the Company for the implementation of systems software and the sale of gaming devices. Arrangements for the implementation of systems software will generally include a combination of systems software licenses, systems-based hardware products, maintenance and product support fees, and professional services. Certain gaming equipment arrangements may also include the sale of gaming devices and game conversion kits. Revenue arrangements with multiple deliverables are allocated to separate units of accounting if the deliverables meet both of the following criteria:

 

·                  The delivered items have value to the customer on a stand-alone basis. The items have value on a standalone basis if they are sold separately by any vendor or the customer could resell the delivered items on a standalone basis; and

 

·                  If the arrangement includes a general right of return relative to the delivered items, delivery or performance of the undelivered items is considered probable and substantially in the control of the Company.

 

At the inception of a multiple element arrangement, fees under the arrangement are allocated to the nonsoftware deliverables, and to the software deliverables as a group based on their relative selling price. Software deliverables are further subject to separation and allocation based on software revenue recognition guidance as described in the following paragraph. When applying the relative selling price method, a hierarchy is used for estimating the selling price based first on vendor-specific objective evidence (“VSOE”), then third-party evidence (“TPE”) and finally management’s estimate of the selling price (“ESP”). Revenue for each unit of accounting is recognized when the relevant recognition criteria for each respective element has been met.

 

In allocating arrangement fees under the relative selling price hierarchy, the Company uses VSOE for all products which have been sold on a stand-alone basis. As TPE is generally not available, the Company uses ESP for products that are not sold on a stand-alone basis and for recently introduced products that are sold on a stand-alone basis but for which a history of stand-alone sales has not yet been developed. Following these guidelines, the Company uses either VSOE or ESP for gaming devices, system-based hardware products, maintenance and product support fees associated with perpetual licenses and professional services; and ESP for perpetual and time-based software licenses and maintenance and product support fees associated with time-based licenses.

 

The Company uses the residual method to recognize revenue allocated to software deliverables. Under the residual method, the fair value of the undelivered elements is deferred and the remaining portion of the arrangement fee is allocated to the delivered element and is recognized as revenue. In arrangements in which the Company does not have VSOE of fair value of all undelivered software elements, revenue is deferred until delivery occurs or VSOE of fair value has been established for any remaining undelivered software elements. In the event the only undelivered software element is maintenance and product support for which VSOE of fair value does not exist, the revenue is recognized ratably over the maintenance and product support period.

 

The establishment of VSOE requires judgment as to whether there is a sufficient quantity of items sold on a stand-alone basis and whether the prices demonstrate an appropriate level of concentration to conclude that VSOE exists. In determining ESP, management considers a variety of information including historic pricing and discounting practices, competitive market activity, internal costs, and the pricing and discounting practices of products sold in bundled arrangements.

 

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Other recently adopted accounting pronouncements

 

On December 31, 2011, the Company chose to early adopt new accounting guidance to make the presentation of items within other comprehensive income (“OCI”) more prominent. The new standard requires companies to present items of net income, items of OCI and total comprehensive income in one continuous statement or two separate consecutive statements, and companies are no longer allowed to present items of OCI only in the statement of stockholders’ equity. The Company chose to present the items in two separate consecutive statements. The new guidance was applied retrospectively.

 

Effective December 31, 2011, new accounting guidance for testing goodwill impairment permits an entity to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment test. The Company has not utilized this method in evaluation goodwill impairment.

 

On July 1, 2011, the Company adopted new accounting guidance related to accruals for casino jackpot liabilities. Specifically, the guidance clarifies that an entity should not accrue jackpot liabilities, or portions thereof, before a jackpot is won if the entity can avoid paying the jackpot. Jackpots should be accrued and charged to revenue when an entity has the obligation to pay the jackpot. The guidance applies to both base and progressive jackpots. The new guidance was applied by recording a cumulative-effect adjustment to opening retained earnings of $2.4 million on July 1, 2011.

 

On July 1, 2011, the Company adopted new accounting guidance related to troubled debt restructuring. The guidance clarifies which loan modifications constitute troubled debt restructurings to assist creditors in determining whether a modification of the terms of a receivable meets the criteria to be considered a troubled debt restructuring, both for purposes of recording an impairment loss and for disclosures of troubled debt restructurings.

 

Recently issued accounting pronouncements not yet adopted

 

In December 2011, the FASB issued new accounting guidance for disclosures about offsetting assets and liabilities which requires and entity to disclose information about financial instruments that have been offset and related arrangements to enable users of its financial statements to understand the effect of those arrangements on its financial position. Entities will be required to provide both net (offset amounts) and gross information in the notes to the financial statements for relevant assets and liabilities that are offset. The new guidance is effective for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods. The Company expects to adopt this guidance in fiscal 2014 and does not believe it will have a significant impact on its consolidated results of operations, financial condition and cash flows.

 

The Company believes there is no additional new accounting guidance adopted but not yet effective that is relevant to the readers of our financial statements. However, there are numerous new proposals under development which, if and when enacted, may have a significant impact on its financial reporting.

 

2.             EARNINGS PER SHARE

 

Basic earnings per share are computed by dividing earnings by the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share reflect the additional dilution from all potentially dilutive securities.

 

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The computation of basic and diluted earnings per share applicable to the Company’s common stock is as follows:

 

 

 

Three Months Ended
December 31,

 

Six Months Ended
December 31,

 

 

 

2011

 

2010

 

2011

 

2010

 

 

 

(in 000s, except per share amounts)

 

Amounts attributable to Bally Technologies, Inc.:

 

 

 

 

 

 

 

 

 

Income from continuing operations, net of tax

 

$

24,268

 

$

27,252

 

$

44,660

 

$

49,444

 

Loss on sale of discontinued operations, net of tax

 

 

 

 

(403

)

Net income

 

$

24,268

 

$

27,252

 

$

44,660

 

$

49,041

 

 

 

 

 

 

 

 

 

 

 

Weighted average common shares outstanding

 

42,870

 

53,291

 

43,296

 

53,485

 

Dilutive effect of:

 

 

 

 

 

 

 

 

 

Stock options, Restricted Stock Units (“RSU”) and restricted stock

 

1,901

 

2,650

 

1,880

 

2,503

 

Warrants

 

 

2

 

 

2

 

Weighted average diluted shares outstanding

 

44,771

 

55,943

 

45,176

 

55,990

 

 

 

 

 

 

 

 

 

 

 

Basic earnings per share attributable to Bally Technologies, Inc.

 

 

 

 

 

 

 

 

 

Income from continuing operations

 

$

0.57

 

$

0.51

 

$

1.03

 

$

0.93

 

Loss on sale of discontinued operations

 

 

 

 

(0.01

)

Basic earnings per share

 

$

0.57

 

$

0.51

 

$

1.03

 

$

0.92

 

 

 

 

 

 

 

 

 

 

 

Diluted earnings per share attributable to Bally Technologies, Inc.

 

 

 

 

 

 

 

 

 

Income from continuing operations

 

$

0.54

 

$

0.49

 

$

0.99

 

$

0.89

 

Loss on sale of discontinued operations

 

 

 

 

(0.01

)

Diluted earnings per share

 

$

0.54

 

$

0.49

 

$

0.99

 

$

0.88

 

 

Certain securities were excluded from the diluted per share calculation because their inclusion would be anti-dilutive. Such securities consist of the following:

 

 

 

Three Months Ended
December 31,

 

Six Months Ended
December 31,

 

 

 

2011

 

2010

 

2011

 

2010

 

 

 

(in 000s)

 

Stock options, RSU and restricted stock

 

761

 

644

 

781

 

654

 

 

3.             GOODWILL AND INTANGIBLE ASSETS

 

Intangible assets consist of the following:

 

 

 

 

 

December 31, 2011

 

June 30, 2011

 

 

 

Useful
Life
(Years)

 

Gross
Carrying
Amount

 

Accumulated
Amortization

 

Net
Carrying
Amount

 

Gross
Carrying
Amount

 

Accumulated
Amortization

 

Net
Carrying
Amount

 

 

 

(dollars in 000s)

 

Computer software

 

3 - 9

 

$

37,636

 

$

(33,252

)

$

4,384

 

$

36,725

 

$

(31,841

)

$

4,884

 

License rights

 

3 - 13

 

8,656

 

(3,593

)

5,063

 

4,344

 

(2,751

)

1,593

 

Trademarks

 

5 - 9

 

2,345

 

(2,204

)

141

 

2,203

 

(2,203

)

 

Core technology

 

5 - 14

 

23,763

 

(16,070

)

7,693

 

22,763

 

(14,107

)

8,656

 

Contracts

 

5 - 10

 

15,430

 

(7,933

)

7,497

 

15,303

 

(7,372

)

7,931

 

Other intangibles

 

3 - 5

 

4,047

 

(527

)

3,520

 

5,337

 

(1,036

)

4,301

 

Total finite lived intangible assets

 

 

 

$

91,877

 

$

(63,579

)

$

28,298

 

$

86,675

 

$

(59,310

)

$

27,365

 

Trademark

 

indefinite

 

7,500

 

 

7,500

 

7,500

 

 

7,500

 

Total

 

 

 

$

99,377

 

$

(63,579

)

$

35,798

 

$

94,175

 

$

(59,310

)

$

34,865

 

 

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Total amortization expense related to finite lived intangible assets was $2.5 million for both the three months ended December 31, 2011 and 2010, respectively, which included computer software amortization expense of $0.6 million and $0.9 million for the three months ended December 31, 2011 and 2010, respectively. Total amortization expense related to finite lived intangible assets was $4.9 million and $5.1 million for the six months ended December 31, 2011 and 2010, respectively, which included computer software amortization expense of $1.2 million and $2.0 million for the six months ended December 31, 2011 and 2010, respectively. Future amortization of finite lived intangible assets is scheduled as follows:

 

Year Ended June 30,

 

(in 000s)

 

2012 (remaining six months of fiscal year)

 

$

6,423

 

2013

 

10,253

 

2014

 

5,752

 

2015

 

2,610

 

2016

 

1,719

 

Thereafter

 

1,541

 

Total

 

$

28,298

 

 

All goodwill is associated with continuing operations. The changes in the carrying amount of goodwill for the six months ended December 31, 2011, are as follows:

 

 

 

(in 000s)

 

Balance at June 30, 2011

 

$

162,110

 

Additions

 

7,131

 

Foreign currency translation adjustment

 

(632

)

Balance at December 31, 2011

 

$

168,609

 

 

In July 2011, the Company acquired substantially all of the assets and liabilities of MacroView Labs. No impairment charges for goodwill and intangible assets were necessary for the three and six months ended December 31, 2011 and 2010, respectively.

 

4.             LONG-TERM DEBT

 

Long-term debt consists of the following:

 

 

 

December 31,

 

June 30,

 

 

 

2011

 

2011

 

 

 

(in 000s)

 

Revolving credit facility

 

$

199,000

 

$

219,000

 

Term loan facility

 

288,750

 

296,250

 

Other, generally unsecured

 

141

 

153

 

Long-term debt

 

487,891

 

515,403

 

Less current maturities

 

(15,141

)

(15,153

)

Long-term debt, net of current maturities

 

$

472,750

 

$

500,250

 

 

As of December 31, 2011, there was approximately $199.8 million of undrawn availability under the revolving credit facility. Availability under the revolving credit facility is reduced to the extent of outstanding letters of credit.

 

On April 15, 2011, the Company entered into an amended and restated credit agreement, that provides for a $700 million senior secured credit facility comprised of a $300 million, five-year term loan and a $400 million, five-year revolving credit facility, including a $50 million sublimit for the issuance of standby letters of credit, a $10 million sublimit for swingline loans and a $150 million sublimit for multicurrency borrowings approved under the credit facility.

 

The interest rate on the credit facility is subject to a leverage-based pricing grid based on LIBOR plus a margin between 1.25% and 2.00%. As of December 31, 2011, the interest rate on the revolving credit facility was 2.05% and the interest rate on the term loan was approximately 3.83%, after giving effect to the floating-to-fixed interest rate swaps discussed below.

 

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Under the credit facility, the term loan requires quarterly principal reductions in an amount equal to 1.25% of the effective date term loan amount, or $3,750,000, through March 2013; an amount equal to 1.875% of the effective date term loan amount, or $5,625,000, through March 2014; an amount equal to 2.50% of the effective date term loan amount, or $7,500,000, from June 2014 until the term loan’s maturity in May 2016 upon when the remaining outstanding principal balance of $187,500,000 is due.

 

The credit facility is collateralized by substantially all of the Company’s domestic property and is guaranteed by each of the Company’s domestic subsidiaries, excluding any noncontrolling interests, and is secured by a pledge agreement.

 

The fair value of long-term debt is estimated by discounting expected cash flows using current interest rates at which similar loans would be made to borrowers with similar credit ratings and remaining maturities. As of December 31, 2011 and June 30, 2011, the fair value of long-term debt approximated the carrying value.

 

The credit facility contains a number of covenants that, among other things, restrict the Company’s ability and certain of its subsidiaries to dispose of assets, incur additional indebtedness or issue preferred stock, pay dividends or make other distributions, enter into certain acquisitions, repurchase equity interests or subordinated indebtedness, issue or sell equity interests of our subsidiaries, engage in mergers or acquisitions or certain transactions with subsidiaries and affiliates, and that otherwise restrict corporate activities.

 

The financial covenants under the credit facility consist of a leverage ratio and an interest coverage ratio. The leverage ratio is computed as total debt outstanding at the end of the quarter divided by the trailing twelve months Earnings Before Interest, Taxes, Depreciation and Amortization (“EBITDA”), excluding certain cash and non-cash charges. The interest coverage ratio is computed as EBITDA for the trailing twelve months divided by the trailing twelve months of interest charges.

 

A breach of any of the covenants or the inability to comply with the required financial ratios could result in a default under the credit facility. In the event of any such default, the lenders could elect to declare all borrowings outstanding under the credit facility, together with any accrued interest and other fees, to be due and payable. If the Company were unable to repay the indebtedness upon its acceleration, the lenders could proceed against the underlying collateral. The Company was in compliance with all of the credit facility covenants as of December 31, 2011 and June 30, 2011.

 

Interest Rate Swap Agreements

 

Effective December 2008, the Company entered into a floating-to-fixed interest rate swap agreement with an original notional value of $218.8 million and a maturity date of September 26, 2012 to fix floating LIBOR based debt to fixed rate debt at an interest rate of 1.89%. Effective June 2011, the Company entered into a second floating-to-fixed rate swap agreement with an original notional value of $165.0 million and a maturity date of May 13, 2016 to fix a portion of the floating LIBOR based debt under the new term loan to fixed rate debt at an interest rate of 2.09%. At December 31, 2011, the combined swap agreements had a notional value of $288.8 million.

 

The Company has documented and designated these interest rate swaps as cash flow hedges. Based on the assessment of effectiveness using statistical regression, the Company determined that the interest rate swaps are effective. Effectiveness testing of the hedge relationships and measurement to quantify ineffectiveness is performed each quarter using the hypothetical derivative method. As the interest rate swaps qualify as cash flow hedges, the Company adjusts the cash flow hedges on a quarterly basis to their fair value with a corresponding offset to accumulated Other Comprehensive Income (“OCI”). The interest rate swaps have been and are expected to remain highly effective for the life of the hedges. Effective amounts are reclassified to interest expense as the related hedged expense is incurred. Any ineffectiveness is reclassified from accumulated other comprehensive income to other income (expense). As of December 31, 2011, the Company had no ineffectiveness on its cash flow hedges. Amounts related to the swaps expected to be reclassified from other comprehensive income to interest expense in the next twelve months total $4.3 million.

 

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Additional information on the Company’s interest rate swaps are as follows:

 

Interest Rate Swaps

 

Balance Sheet Location

 

Fair Value
(in 000s)

 

Location of Offsetting Balance

 

Cash flow hedges—$288.8 million LIBOR based debt

 

Accrued and other liabilities

 

$

4,350

 

 

 

 

 

Other liabilities

 

7,888

 

 

 

 

 

 

 

$

12,238

 

Accumulated other comprehensive income (before income taxes)

 

 

5.             SHARE-BASED COMPENSATION

 

Employee Stock Purchase Plan

 

The 2008 Employee Stock Purchase Plan (the “2008 ESPP”) provides that eligible employees are able to contribute up to 10% of their eligible earnings towards the quarterly purchase of the Company’s common stock. The employee’s purchase price is equal to 85% of the fair market value. During the six months ended December 31, 2011 and 2010, employees purchased 40,085 shares and 32,470 shares of common stock for approximately $1.2 million and $1.0 million, respectively, under the 2008 ESPP.

 

Share-Based Award Plans

 

Stock option activity as of and for the six months ended December 31, 2011 is summarized below:

 

 

 

 

 

Weighted Average

 

 

 

 

 

Shares

 

Exercise
Price

 

Remaining
Contractual
Term

 

Aggregate
Intrinsic Value

 

 

 

(in 000s)

 

(per share)

 

(years)

 

(in 000s)

 

Balance outstanding as of June 30, 2011

 

3,682

 

$

24.45

 

 

 

$

60,558

 

Granted

 

71

 

36.53

 

 

 

 

 

Exercised

 

(157

)

18.79

 

 

 

 

 

Forfeited or expired

 

(45

)

36.06

 

 

 

 

 

Balance outstanding as of December 31, 2011

 

3,551

 

$

24.79

 

3.43

 

$

53,530

 

Exercisable as of December 31, 2011

 

2,817

 

$

22.03

 

2.94

 

$

50,031

 

 

Restricted stock and RSU activity as of and for the six months ended December 31, 2011 is summarized below:

 

 

 

Restricted
Stock

 

Weighted
Average
Grant Date
Fair Value

 

RSUs

 

Weighted
Average
Grant Date
Fair Value

 

 

 

(in 000s)

 

(per share)

 

(in 000s)

 

(per share)

 

Balance outstanding as of June 30, 2011

 

337

 

$

38.42

 

600

 

$

18.92

 

Granted

 

184

 

38.99

 

 

 

Vested

 

(46

)

40.08

 

(30

)

42.01

 

Forfeited or expired

 

(4

)

37.98

 

 

 

Balance outstanding as of December 31, 2011

 

471

 

$

38.49

 

570

 

$

17.69

 

Vested as of December 31, 2011

 

 

 

 

 

534

 

$

16.04

 

 

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Share-Based Compensation

 

The following table presents share-based compensation expense and related effect of the income tax benefit included in the Company’s unaudited condensed consolidated statements of operations:

 

 

 

Three Months Ended
December 31,

 

Six Months Ended
December 31,

 

 

 

2011

 

2010

 

2011

 

2010

 

 

 

(in 000s)

 

Selling, general and administrative

 

$

2,731

 

$

2,475

 

$

5,153

 

$

4,882

 

Research and development costs

 

1,095

 

841

 

2,022

 

1,677

 

Cost of gaming equipment and systems and gaming operations

 

64

 

46

 

107

 

87

 

Share-based compensation expense before tax

 

3,890

 

3,362

 

7,282

 

6,646

 

Income tax benefit

 

1,362

 

1,177

 

2,549

 

2,326

 

Net share-based compensation expense

 

$

2,528

 

$

2,185

 

$

4,733

 

$

4,320

 

 

As of December 31, 2011, there was $9.1 million of total unrecognized compensation expense related to the unvested portion of stock options which will be recognized over the subsequent 1.80 years. In addition, as of December 31, 2011, there was $15.8 million of total unrecognized compensation expense related to the unvested portion of restricted stock and RSUs which will be recognized over the subsequent 1.89 years.

 

6.             STOCKHOLDERS’ EQUITY

 

Share Repurchase Plan

 

The Company’s Board of Directors have approved a variety of share repurchase plans under which, subject to price and market conditions, purchases of shares can be made from time to time in the open market or in privately negotiated transactions using available cash.

 

During the six months ended December 31, 2011 and 2010, the Company repurchased 1,376,609 shares and 1,146,185 shares of common stock for $40.9 million and $40.6 million, respectively, under the share repurchase plan. As of December 31, 2011, $110.7 million remained available under the plan for repurchase in future periods.

 

7.             INCOME TAXES

 

The provision for income taxes for interim periods is based on the current estimate of the annual effective tax rate expected to be applicable for the full fiscal year and the impact of discrete items, if any, and is adjusted as necessary for quarterly events. The effective income tax rate was approximately 37.7% and 19.5% for the three months ended December 31, 2011 and 2010, respectively, and 37.3% and 27.5% for the six months ended December 31, 2011 and 2010, respectively. The increase in the effective income tax rate is primarily attributable to discrete items in the three and six months ended December 31, 2010 related to the IRS settlement discussed below, the reinstatement of the federal research and development tax credit and deferred tax expense on the repatriation of earnings from our India subsidiary.

 

The Internal Revenue Service (“IRS”) commenced examination of the Company’s United States federal income tax returns for 2003 through 2005 in the fourth quarter of 2006. In January 2009, the IRS completed its field examination of the open tax years and issued a Revenue Agent’s Report, and the Company paid $3.4 million in tax and $1.2 million in interest to the IRS to settle certain agreed adjustments. The Company filed a formal protest regarding certain unagreed adjustments and in June 2010, the Company agreed to settle all remaining issues with the IRS. Formal closure of the case occurred in October 2010 and the Company received a refund from the IRS of $2.3 million, including $0.6 million in interest.

 

The IRS commenced examination of the Company’s United States federal income tax returns for 2006 through 2009 during fiscal 2011. The IRS completed its field examination of the open tax years and issued a Revenue Agent’s Report in January 2012.The Company expects to file a formal protest regarding certain unagreed adjustments. The Company does not expect the final results of the examination to have a material impact on the financial statements.

 

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As of December 31, 2011, the Company has $9.7 million related to uncertain tax positions, excluding related accrued interest and penalties, $9.6 million of which, if recognized, would impact the effective tax rate. As of December 31, 2011, the Company has $1.5 million accrued for the payment of interest and penalties.

 

It is reasonably possible that the Company’s amount of unrecognized tax benefits may decrease within the next twelve months by a range up to $0.1 million.

 

The Company files numerous consolidated and separate income tax returns in the United States and various state and foreign jurisdictions. With few exceptions, the Company is no longer subject to United States federal income tax examinations for years before fiscal 2006 and is no longer subject to state and local, or foreign income tax examinations for years before 2003.

 

8.             COMMITMENTS AND CONTINGENCIES

 

Litigation

 

The Company is subject to legal proceedings, claims and investigations in the ordinary course of business, including claims of alleged infringement of third-party patents and other intellectual property rights, indemnification claims, commercial, employment and other matters. Liabilities related to such matters are recorded when it is both probable that a liability has been incurred and the amount of the liability can be reasonably estimated. All legal costs associated with litigation are expensed as incurred.

 

In October 2010, WMS Gaming Inc. (“WMS”) filed a patent infringement lawsuit against the Company in the United States District Court for the District of Northern Illinois. The complaint asserted that several of the Company’s products using iReel displays infringe two WMS patents and sought injunctive relief and damages in unspecified amounts. WMS later amended its complaint to assert three additional patents related to the use of a video screen in conjunction with a gaming machine using mechanical reels also infringe certain WMS patents. As part of its response, the Company asserted counterclaims seeking damages and other unspecified relief against WMS for violation of certain Company patents, including claims that the WMS patents are invalid, unenforceable, and not infringed. In November 2011, the Company and WMS entered into a settlement and license agreement to end the litigation. As part of the agreement, the Company obtained a license to the WMS and Aruze Transmissive Reels® gaming technology portfolio under confidential terms.

 

In April 2006, International Game Technology (“IGT”) filed a patent infringement lawsuit against the Company in the United States District Court for the District of Delaware. The complaint asserted that the Company’s Bally Power Bonusing products infringe patents held by IGT, and sought injunctive relief and damages in unspecified amounts. In April 2009, the district court issued an order finding that two of the Company’s products, ACSC Power Winners and ACSC Power Reward, infringe some patent claims asserted by IGT, but not others. Both parties appealed. In October 2011, the Federal Circuit Court of Appeals affirmed the district court’s decision, and the case will now be remanded back to the district court for discovery and trial on the issue of damages. In the meantime, the Company undertook technical changes to ensure non-infringement for the two products partially in question.

 

In December 2004, IGT filed a patent infringement lawsuit against the Company in the United States District Court for the District of Nevada. The complaint asserted that the Company’s wheel-based games, its games with a reel in the top box and its iVIEW products infringed on patents held by IGT, and sought injunctive relief and damages in unspecified amounts. As part of the defense, the Company asserted counterclaims seeking damages and other relief against IGT, including claims that IGT’s patents were invalid, unenforceable and not infringed, as well as several claims that IGT engaged in anti-competitive conduct in violation of state and federal antitrust laws. In October 2008, the court granted the Company’s motions for summary judgment, ruling that IGT’s two “wheel” patents and a touch-screen player-tracking patent were invalid; that even if the patents were valid, the Company’s wheel-based games at issue would not infringe; and that certain of its iVIEW products do not infringe the two asserted player- tracking patents. The summary judgment determinations were upheld by the Federal Circuit Court of Appeals. Upon remand, the District Court granted summary judgment in favor of IGT on the remaining portion of the case regarding IGT’s alleged antitrust violations and in favor of Bally on IGT’s remaining claim that Bally infringed an IGT player tracking patent. An appeal of the summary judgment on Bally’s antitrust claims against IGT is pending.

 

The Company has accrued liabilities related to these contingent liabilities, but such amounts, including the potential range of amounts that management believes is likely, are not material to the financial statements. While the matters described above are subject to inherent uncertainties, management believes that the ultimate resolution of such matters, individually or in aggregate, will not have a material effect on the financial statements.

 

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9.             SEGMENT AND GEOGRAPHICAL INFORMATION

 

The Company’s revenue consists of three sources: Gaming Equipment, which includes the sale of gaming devices and related equipment, parts and conversion kits; Gaming Operations, which includes the operation of wide-area progressive, video lottery and centrally determined systems and the rental of gaming devices and content; and Systems, which includes the sale and support of computerized monitoring systems and related recurring hardware and software maintenance revenue.

 

The following is a summary of revenues and gross margin:

 

 

 

Three Months Ended
December 31,

 

Six Months Ended
December 31,

 

 

 

2011

 

2010

 

2011

 

2010

 

 

 

(in 000s)

 

Revenues:

 

 

 

 

 

 

 

 

 

Gaming Equipment and Systems

 

 

 

 

 

 

 

 

 

Gaming Equipment

 

$

70,136

 

$

59,135

 

$

134,583

 

$

110,173

 

Gaming Operations

 

86,240

 

77,087

 

171,194

 

156,307

 

Systems

 

54,081

 

46,504

 

99,647

 

87,054

 

Total revenues

 

$

210,457

 

$

182,726

 

$

405,424

 

$

353,534

 

 

 

 

 

 

 

 

 

 

 

Gross Margin(1):

 

 

 

 

 

 

 

 

 

Gaming Equipment and Systems

 

 

 

 

 

 

 

 

 

Gaming Equipment

 

$

30,014

 

$

29,014

 

$

58,415

 

$

53,940

 

Gaming Operations

 

62,382

 

54,395

 

123,104

 

111,393

 

Systems

 

40,130

 

33,595

 

74,641

 

63,300

 

Total gross margin

 

$

132,526

 

$

117,004

 

$

256,160

 

$

228,633

 

 


(1)

Gross Margin from Gaming Equipment and Systems excludes amortization related to certain intangibles including core technology and license rights, which are included in depreciation and amortization.

 

The Company has operations based primarily in the United States as well as significant sales and distribution offices based in Europe, and other foreign locations, including South America and India. The table below presents information as to the Company’s revenues and operating income by geographic region which is determined by country of destination:

 

 

 

Three Months Ended
December 31,

 

Six Months Ended
December 31,

 

 

 

2011

 

2010

 

2011

 

2010

 

 

 

(in 000s)

 

Revenues:

 

 

 

 

 

 

 

 

 

United States and Canada

 

$

170,766

 

$

148,778

 

$

329,492

 

$

294,490

 

International

 

39,691

 

33,948

 

75,932

 

59,044

 

Total revenues

 

$

210,457

 

$

182,726

 

$

405,424

 

$

353,534

 

 

 

 

 

 

 

 

 

 

 

Operating income:

 

 

 

 

 

 

 

 

 

United States and Canada

 

$

38,693

 

$

30,462

 

$

74,433

 

$

62,087

 

International

 

4,346

 

5,253

 

5,997

 

7,632

 

Total operating income

 

$

43,039

 

$

35,715

 

$

80,430

 

$

69,719

 

 

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ITEM 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

We begin this section with a summary of our key operating business divisions and our results as of and for the three and six month periods ended December 31, 2011. The overview is followed by a detailed analysis of our results of operations and our financial condition and liquidity as of and for the three and six months ended December 31, 2011 and 2010. References to “we,” “our,” “us,” or the “Company” refer to Bally Technologies, Inc. and its subsidiaries.

 

Forward Looking Statements

 

Certain statements made or incorporated by reference in this Quarterly Report on Form 10-Q, in our other filings with the Securities and Exchange Commission (“SEC”), in our press releases and in statements made by or with the approval of authorized personnel constitute “forward looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”) and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and are subject to the safe harbor created thereby. Forward looking statements reflect intent, belief or current expectations with respect to, among other things, future events and financial trends affecting us. Forward looking statements are typically identified by words such as “believes,” “estimates,” “expects,” “anticipates,” “plans,” “should,” “would” and similar expressions.

 

Although we believe the expectations reflected in any forward looking statements are reasonable, readers are cautioned that forward looking statements involve known and unknown risks and uncertainties, are not guarantees of future performance and that actual results, performance or achievements may differ materially from any future results, performance or achievements expressed or implied by such forward looking statements. These differences can arise as a result of the risks described in “Item 1A, Risk Factors” included in our Annual Report on Form 10-K for the fiscal year ended June 30, 2011 (the “2011 10-K”), as well as other factors such as the impact of competition, the impact of any prolonged downturn in the economy or the financial markets, our ability to service debt, product development, foreign operations, dependence on key personnel, the ability to integrate future acquisitions, regulation by gaming authorities, the outcome of pending litigation matters, gaming taxes, market risks and the potential adverse effects to our financial condition, results of operations or prospects.

 

Forward looking statements in this Quarterly Report on Form 10-Q speak only as of the date hereof, and forward looking statements in documents incorporated by reference speak only as of the date of those documents. Unless otherwise required by law, we undertake no obligation to publicly update or revise these forward looking statements, whether as a result of new information, future events or otherwise. In light of these risks and uncertainties, we cannot assure you that the forward looking statements contained in this Quarterly Report on Form 10-Q will, in fact, transpire.

 

Business Overview

 

We are a diversified, worldwide gaming company that innovates, designs, manufactures, operates and distributes advanced technology-based gaming devices, systems and server-based solutions, as well as interactive and mobile solutions. As a global gaming-systems provider, we offer technology solutions which provide gaming operators with a wide range of marketing, data management and analysis, accounting, player tracking, security and other software applications and tools to more effectively manage their operations. Our primary hardware technologies include spinning-reel and video gaming devices, specialty gaming devices and wide-area progressive systems for traditional land-based, riverboat and Native American casinos, video lottery and central determination markets and specialized system-based hardware products.

 

We derive our revenue from the following:

 

·

Gaming Equipment

Sale of gaming devices and related equipment, parts and conversion kits;

·

Gaming Operations

Operation of linked progressive systems, video lottery and centrally determined systems and the rental of gaming devices and content; and

·

Systems

Sale and support of specialized systems-based software and hardware products and related recurring hardware and software maintenance revenue.

 

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Table of Contents

 

We review certain financial measures in assessing our financial condition and operating performance not only in connection with creating our forecasts and in making comparisons to financial results from prior periods, but also in making comparisons to our competitors’ financial results and our internal plans. We focus on fluctuations in revenue, cost and gross margin and also pay close attention to changes in our consolidated operating income, net income, diluted earnings per share, adjusted EBITDA (earnings before interest, taxes, depreciation and amortization, including asset charges and share-based compensation), cash flows from operations and free cash flow (cash flows from operating activities less capital expenditures) as they are key indicators of our success. We also measure changes in selling, general and administrative (“SG&A”) expenses as a percent of revenue, which indicate management’s ability to control costs, as well as changes in research and development (“R&D”) costs as a percent of revenue, which demonstrate investment in technology and product development. The measures listed above are not a comprehensive list of all factors considered by us in assessing our financial condition and operating performance, and we may consider other individual measures as required by trends and discrete events arising in a specific period, but they are the key indicators.

 

We are currently operating in a challenging economic environment. The gaming sector was and continues to be negatively impacted by lower consumer spending and limited resources available to fund capital projects. As a result of the challenging economic environment, we have provided select customers a greater amount of payment terms for periods up to one year, and in some cases for periods up to three years. We expect to continue to extended credit for these longer periods for the foreseeable future.

 

Gaming equipment revenues were $70.2 million and $59.2 million for the three months ended December 31, 2011 and 2010, respectively, and $134.6 million and $110.2 million for the six months ended December 31, 2011 and 2010, respectively. Gaming equipment revenues improved due primarily to an increase in the number of new gaming devices sold, higher average selling price (“ASP”), and an increase in conversion kit revenue during the current period, when compared to the same period last year. During the three months ended December 31, 2011 and 2010, we sold 2,734 and 2,305 new gaming devices in the United States and Canada, respectively, of which 2,203 and 1,800 were replacement units, respectively. During the six months ended December 31, 2011 and 2010, we sold 5,063 and 4,305 new gaming devices in the United States and Canada, respectively, of which 4,382 and 3,563 were replacement units, respectively.

 

Our Pro Series cabinets with ALPHA 2 technology are state of the art for the industry with regards to ergonomics, processing power, display technology, input device, operating system, sound and serviceability. This platform allowed for the development of new, more compelling games and also facilitated our game download solution for customers. Our Pro Series cabinets also feature the iDeck, first of its kind multi-touch fully programmable and downloadable button panel which offers opportunity to add more interaction to the game-play experience with mystery bonus events, virtual shooting galleries and skill-based bonus games.

 

Systems revenues were $54.0 million and $46.4 million for the three months ended December 31, 2011 and 2010, respectively, and $99.6 million and $87.0 million for the six months ended December 31, 2011 and 2010, respectively. During the three months ended December 31, 2011, when compared to the same period last year, the increase was primarily attributable to increases in maintenance revenue of $2.2 million, and software and services revenue of $6.2 million during the same period. During the six months ended December 31, 2011, when compared to the same period last year, increases in maintenance revenue of $3.9 million, and software and services revenue of $12.3 million, were offset by a decrease in hardware revenue of $3.6 million during the same period. Even though systems sales have been impacted by the economic environment, our core enterprise systems, such as SDS, which runs on both Unix and Windows using the same code base, our iVIEW Display Manager (“DM”) and our Elite Bonusing Suite continued to generate positive interest. In late fiscal 2011, we announced an enterprise-wide agreement with one of the world’s largest casino entertainment companies to implement iView DM player-user-interfaces across their casino operations. We have continued to invest in the basics of enterprise software development, delivery, customer support and services discipline, on improving core products, providing quality upgrade options for our customers, and increasing customer satisfaction levels through better service and support.

 

Gaming operations revenues were $86.2 million and $77.1 million for the three months ended December 31, 2011 and 2010, respectively, and $171.2 million and $156.3 million for the six months ended December 31, 2011 and 2010, respectively. Revenues were stronger period over period due primarily to the continued performance of existing and new premium game titles which increased rental and participation revenue, improvements in linked progressive revenues and lottery systems revenues. We experienced significant growth in the installed base of our rental and daily-fee games and linked progressive systems which increased by approximately 1,272 and 326 units, respectively, over December 31, 2010. Fiscal year 2012 results benefitted from our growing product offerings and innovations, such as U-Spin, and the continued success of our Cash Spin, Hot Spin, Vegas Hits and Cash Wizard games. Our linked progressive system revenue increased due primarily to an increase in placements of our Betty Boop Love Meter™, Golden Pharaoh™ and Money Vault™ wide-area progressive games. We continue to focus our development efforts on the introduction of new and innovative games and cabinets both for our spinning-reel and video platforms.

 

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Table of Contents

 

International revenues were $39.7 million and $33.9 million for the three months ended December 31, 2011 and 2010, respectively, and $75.9 million and $59.0 million for the six months ended December 31, 2011 and 2010, respectively. International revenues increased in the three months and six months ended December 31, 2011, when compared to the same periods last year, due primarily to increases in sales in Mexico, South America and Australia.

 

There are several new and potential gaming market developments that we believe will benefit us in the long term. In North America, we are focused on approved new jurisdictional opportunities and expansions in Canada, Illinois, Ohio, Kansas, Maryland, New Jersey, Louisiana, Mississippi, Florida, Massachusetts, Pennsylvania, Maine and California, and the potential for new market opportunities in New Hampshire, Kentucky and Texas. The breadth and timing of such opportunities remain uncertain due to the legislative process in these jurisdictions, as well as the difficult credit environment facing certain of our customers and the risk of the gaming industry impact of continued economic uncertainty. We are also engaged in expanding our position in South Africa, Australia, New Zealand, and Mexico, and, in the future, we also expect to generate revenue from the Italian VLT market and from potential new markets in Eastern Europe, Greece, Taiwan, South Korea, Japan, Vietnam, the Philippines and Brazil. Further, as we continue to grow and gain market share in Asia, opportunities are anticipated to arise in that region which would enable us to further expand internationally.

 

Net cash provided by operating activities from continuing operations was $61.9 million and $29.0 million for the six months ended December 31, 2011 and 2010, respectively. Cash flows provided by operating activities from continuing operations in the current period were positively affected by decreases in prepaid and refundable income tax due primarily to a refund of $12.0 million in prior taxes paid and increases in deferred revenue during the same period.

 

In the six months ended December 31, 2011, we made payments on our term loan and revolving line of credit totaling $27.5 million, and purchased 1.4 million shares of our common stock for $41.8 million. In the six months ended December 31, 2010, we made payments on our credit facility of $20.0 million, loaned $9.9 million under a financing arrangement with a new customer in Italy, borrowed $19.9 million under our revolving line of credit, and purchased 1.2 million shares of our common stock for $42.3 million.

 

Management monitors and reviews its SG&A expenses in comparison to current revenues and future opportunities. SG&A expenses increased to $61.3 million and $118.5 million during the three and six months ended December 31, 2011 from $55.2 million and $106.8 million, respectively, in the same periods last year. SG&A expenses decreased as a percentage of revenue to 29% during both the three and six months ended December 31, 2011, when compared to 30% during both the three and six months ended December 31, 2010. The increase in SG&A expenses during the three and six months ended December 31, 2011 was due primarily to increases in payroll and related expenses, regulatory, and other infrastructure expense to support key new markets, and an increase in bad debt expense, when compared to the same periods last year. Payroll and related expenses increased due primarily to an increase in headcount in the comparative periods primarily as a result of our expansion into new international markets where we have not yet commenced revenue generating activities. Bad debt expense increased due primarily to an increase in the allowance for doubtful accounts recorded in the current fiscal year in response to our expansion of credit offered to our customers, exposure in certain international markets and specific customer credit situations. Bad debt as a percentage of revenue continues to remain at approximately 1%.

 

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Table of Contents

 

Results of Operations

 

The summary financial results and operating statistics are as follows:

 

 

 

Three Months Ended December 31,

 

Six Months Ended December 31,

 

 

 

2011

 

%

 

2010

 

%

 

2011

 

%

 

2010

 

%

 

 

 

(dollars in millions)

 

Revenues:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gaming Equipment

 

$

70.2

 

33

%

$

59.2

 

33

%

$

134.6

 

33

%

$

110.2

 

31

%

Gaming Operations

 

86.2

 

41

%

77.1

 

42

%

171.2

 

42

%

156.3

 

44

%

Systems

 

54.0

 

26

%

46.4

 

25

%

99.6

 

25

%

87.0

 

25

%

Total revenues

 

$

210.4

 

100

%

$

182.7

 

100

%

$

405.4

 

100

%

$

353.5

 

100

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross Margin:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gaming Equipment(1)

 

$

30.0

 

43

%

$

29.0

 

49

%

$

58.4

 

43

%

$

53.9

 

49

%

Gaming Operations

 

62.4

 

72

%

54.4

 

71

%

123.1

 

72

%

111.4

 

71

%

Systems(1)

 

40.1

 

74

%

33.6

 

72

%

74.6

 

75

%

63.3

 

73

%

Total gross margin

 

$

132.5

 

63

%

$

117.0

 

64

%

$

256.1

 

63

%

$

228.6

 

65

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Selling, general and administrative

 

$

61.3

 

29

%

$

55.2

 

30

%

$

118.5

 

29

%

$

106.8

 

30

%

Research and development costs

 

22.4

 

11

%

21.3

 

12

%

45.8

 

11

%

42.7

 

12

%

Depreciation and amortization

 

5.8

 

3

%

4.8

 

3

%

11.4

 

3

%

9.4

 

3

%

Operating income

 

$

43.0

 

20

%

$

35.7

 

20

%

$

80.4

 

20

%

$

69.7

 

20

%

Income from continuing operations

 

$

24.3

 

12

%

$

27.2

 

15

%

$

44.7

 

11

%

$

48.9

 

14

%

 


(1)

Gross Margin from Gaming Equipment and Systems excludes amortization related to certain intangibles, including core technology and license rights, which are included in depreciation and amortization.

 

 

 

 

Three Months Ended
December 31,

 

Six Months Ended
December 31,

 

 

 

2011

 

2010

 

2011

 

2010

 

Operating Statistics

 

 

 

 

 

 

 

 

 

New gaming devices

 

3,636

 

3,468

 

7,035

 

6,291

 

New unit ASP

 

$

17,201

 

$

15,244

 

$

16,922

 

$

15,442

 

 

 

 

 

 

 

 

 

 

 

End of period installed base:

 

 

 

 

 

 

 

 

 

Gaming monitoring units installed base

 

 

 

 

 

406,000

 

392,000

 

 

 

 

 

 

 

 

 

 

 

Linked progressive systems

 

 

 

 

 

1,263

 

937

 

Rental and daily-fee games

 

 

 

 

 

14,624

 

13,352

 

Video lottery systems

 

 

 

 

 

10,832

 

8,125

 

Centrally determined systems

 

 

 

 

 

47,461

 

50,609

 

 

Three Months Ended December 31, 2011 Compared to Three Months Ended December 31, 2010

 

Total revenues increased $27.7 million, or 15%, in the three months ended December 31, 2011, when compared to the same period last year, as a result of the following:

 

Gaming Equipment Revenue. Gaming Equipment revenue increased $11.0 million, or 19%, to $70.2 million primarily as a result of a 5% increase in new gaming device sales to 3,636 units in the three months ended December 31, 2011, when compared to 3,468 units in the same period last year. ASP of new gaming devices increased by 13% to $17,201 in the three months ended December 31, 2011 when compared to $15,244 in the same period last year. The increase in ASP was primarily a result of the mix of products sold, including sales of the new Pro Series cabinets with Alpha 2 technology in the current fiscal quarter which made up approximately 87% of shipments, when compared to 37% in the same period last year. In addition, there was a 49% increase in used gaming device sales and a 22% increase in conversion kits sales during the same period.

 

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Table of Contents

 

Gaming Equipment Gross Margin. Gaming Equipment gross margin decreased to 43% in the three months ended December 31, 2011 from 49% in the same period last year, due primarily to the increased cost for the initial production runs of several models of the Pro Series line of cabinets, including the Pro Curve, and an increase in royalty-based fees associated with third-party themes due to an increase in the number of related unit and game conversion kit sales. We expect the cost of our Pro Series cabinets to decline in the future thereby improving Gaming Equipment gross margins.

 

Gaming Operations Revenue. Gaming Operations revenue increased $9.1 million, or 12%, to $86.2 million in the three months ended December 31, 2011, when compared to the same period last year, primarily as a result of an increase in participation and rental revenue and the placements of higher yield premium products, including Cash Spin, Hot Spin, Vegas Hits and Cash Wizard, and the performance of our linked progressive and lottery systems installed base. The improvement in participation and rental revenue and wide-area progressive revenue was primarily due to increases in our end of period installed base of games, that included a 10% increase in the installed games base of rental and daily fee games, and a 35% increase in the installed base of linked progressive systems due primarily to the release and continued placement of our Betty Boop Love Meter, Golden Pharaoh and Money Vault wide-area progressive games. The improvements in our lottery systems revenue was primarily due to increases in our end of period installed base of games with the opening of Resorts World Casino New York City at Aqueduct Racetrack.

 

Gaming Operations Gross Margin. Gross margin increased slightly to 72% in the three months ended December 31, 2011, when compared to 71%, in the same period last year. The improvement in gross margin in the current quarter was primarily attributable to a decrease in jackpot liability expense, when compared to the same quarter last year.

 

Systems Revenue. Systems revenue increased $7.6 million, or 16%, to $54.0 million in the three months ended December 31, 2011 when compared to the same period last year. Maintenance revenue increased $2.2 million in the three months ended December 31, 2011, when compared to the same period last year, as a result of the increased install base of customers on our systems. During the three months ended December 31, 2011, increases in maintenance revenue of 14% and software and services revenue of 53% were partially offset by a decrease in hardware revenue of 4%, when compared to the same period last year.

 

Systems Gross Margin. Systems gross margin increased to 74% in the three months ended December 31, 2011 from 72%, in the same period last year, primarily as a result of a change in the mix of products sold in the comparative periods including an increase in maintenance and software and services revenue which involves minimal variable costs. Specifically, Systems revenues for the three months ended December 31, 2011 were comprised of 33% hardware, 34% maintenance and 33% software and services revenue, as compared to 40% hardware, 34% maintenance and 26% software and services revenue in the same period last year.

 

Selling, General and Administrative Expenses. SG&A expenses increased $6.1 million, or 11%, in the three months ended December 31, 2011, when compared to the same period last year, due primarily to increases in payroll and related expenses, regulatory expense and bad debt expense. Payroll and related expenses increased due primarily to an increase in headcount in the comparative periods primarily as a result of our expansion into new international markets where we have not yet commenced significant revenue generating activities. In addition, certain incentive expenses, including commissions, increased during the current period with the 15% increase in revenue, when compared to the same period last year. Regulatory expense increased due primarily to an increase in submissions for new cabinets, game titles and operating systems, coupled with an expansion into new international markets. Bad debt expense increased due primarily to an increase in the allowance for doubtful accounts recorded in the current quarter in response to our expansion of credit offered to our customers, increased exposure in certain international markets and specific customer credit situations. Bad debt as a percentage of revenue continues to remain at approximately 1%.

 

Research and Development Costs. R&D costs increased $1.1 million, or 5%, in the three months ended December 31, 2011, when compared to the same period last year, due primarily to increased product development efforts requiring an increase in employees. The increased costs reflect our continued focus on our technology assets including content development on the ALPHA 2 platform and the new Pro Series cabinets as well as development of iVIEW DM and applications on the Elite Bonusing Suite.

 

Depreciation and Amortization Expense. Depreciation and amortization expense increased $1.0 million, or 21%, in the three months ended December 31, 2011, when compared to same period last year, primarily as a result of additions in intangible assets and property and equipment year over year.

 

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Table of Contents

 

Six Months Ended December 31, 2011 Compared to Six Months Ended December 31, 2010

 

Total revenues increased $51.9 million, or 15%, in the six months ended December 31, 2011, when compared to the same period last year, as a result of the following:

 

Gaming Equipment Revenue. Gaming Equipment revenue increased $24.4 million, or 22%, to $134.6 million primarily as a result of a 12% increase in new gaming device sales to 7,035 units in the six months ended December 31, 2011, when compared to 6,291 units in the same period last year. ASP of new gaming devices increased by 10% to $16,922 in the six months ended December 31, 2011 when compared to $15,442 in the same period last year. The increase in ASP was primarily a result of the mix of products sold, including the sales of new Pro Series cabinets with Alpha 2 technology in the current fiscal year which made up approximately 81% of shipments, when compared to 29% in the same period last year. In addition, there was a 12% increase in used gaming device sales and a 25% increase in conversion kits sales during the same period.

 

Gaming Equipment Gross Margin. Gaming Equipment gross margin decreased to 43% in the six months ended December 31, 2011 from 49% in the same period last year, due primarily to the increased cost for the initial production runs of several models of the Pro Series line of cabinets, and an increase in royalty-based fees associated with third-party themes due to an increase in the number of related unit and game conversion kit sales. We expect the cost of our Pro Series cabinets to decline in the future thereby improving Gaming Equipment gross margins.

 

Gaming Operations Revenue. Gaming Operations revenue increased $14.9 million, or 10%, to approximately $171.2 million in the six months ended December 31, 2011, when compared to the same period last year, primarily as a result of an increase in participation and rental revenue and the placements of higher yield premium products, including Cash Spin, Hot Spin, Vegas Hits and Cash Wizard, and the performance of our linked progressive and lottery systems installed bases. The improvement in participation and rental revenue and wide-area progressive revenue was primarily due to increases in our end of period installed base of games, that included a 10% increase in the installed games base of rental and daily fee games, and a 35% increase in the installed base of linked progressive systems due primarily to the release of our Betty Boop Love Meter, Golden Pharaoh and Money Vault wide-area progressive games.

 

Gaming Operations Gross Margin. Gross margin increased slightly to 72% in the six months ended December 31, 2011, when compared to 71% in the same period last year. The improvement in gross margin in the current period was primarily attributable to a decrease in jackpot liability expense, when compared to the same period last year.

 

Systems Revenue. Systems revenue increased $12.6 million, or 14%, to approximately $99.6 million in the six months ended December 31, 2011 when compared to the same period last year. Maintenance revenue increased $3.9 million in the six months ended December 31, 2011, when compared to the same period last year, as a result of the increased install base of customers on our systems. During the six months ended December 31, 2011, increase in maintenance revenue of 12% and software and services revenue of 58% were partially offset by a decrease in hardware revenue of 10%, when compared to the same period last year.

 

Systems Gross Margin. Systems gross margin increased to 75% in the six months ended December 31, 2011 from 73%, in the same period last year, primarily as a result of a change in the mix of products sold in the comparative periods including an increase in maintenance and software and services revenue which involves minimal variable costs. Specifically, Systems revenue for the six months ended December 31, 2011 were comprised of 31% hardware, 36% maintenance and 33% software and services revenue, as compared to 39% hardware, 37% maintenance and 24% software and services revenue in the same period last year.

 

Selling, General and Administrative Expenses. SG&A expenses increased $11.7 million, or 11%, in the six months ended December 31, 2011, when compared to the same period last year, due primarily to increases in payroll and related expenses, regulatory expense, legal fees, and bad debt expense. Payroll and related expenses increased due primarily to an increase in headcount in the comparative periods primarily as a result of our expansion into new international markets where we have not yet commenced significant revenue generating activities. In addition, certain incentive expenses, including commissions, have increased during the current period with the 15% increase in revenue, when compared to the same period last year. Regulatory expense increased due primarily to an increase in submissions for new cabinets, game titles and operating systems, coupled with an expansion into new international markets. Legal fees increased due primarily to costs associated with litigation and fees related to our entrance into new international markets. Bad debt expense increased due primarily to an increase in the allowance for doubtful accounts recorded in the current quarter in response to our expansion of credit offered to our customers and increased exposure in international markets. Bad debt as a percentage of revenue continues to remain at approximately 1%.

 

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Research and Development Costs. R&D costs increased $3.1 million, or 7%, in the six months ended December 31, 2011, when compared to the same period last year, due primarily to increased product development efforts requiring an increase in employees. The increased costs reflect our continued focus on our technology assets including content development on the ALPHA 2 platform and the new Pro Series cabinets as well as development of iVIEW DM and applications on the Elite Bonusing Suite.

 

Depreciation and Amortization Expense. Depreciation and amortization expense increased $2.0 million, or 21%, in the six months ended December 31, 2011, when compared to same period last year, primarily as a result of additions in intangible assets and property and equipment year over year.

 

Other Income (Expense), Income Tax Expense and Net Income Attributable to Noncontrolling Interests

 

Other income (expense) and income tax expense from continuing operations and net income attributable to noncontrolling interests was as follows:

 

 

 

Three Months Ended December 31,

 

Six Months Ended December 31,

 

 

 

2011

 

2010

 

2011

 

2010

 

 

 

(dollars in millions)

 

Other income (expense)

 

 

 

 

 

 

 

 

 

Interest income

 

$

1.2

 

$

1.2

 

$

2.5

 

$

2.3

 

Interest expense

 

(4.5

)

(3.0

)

(9.1

)

(6.0

)

Other, net

 

(0.7

)

(0.3

)

(2.6

)

1.5

 

Total other expense

 

$

(4.0

)

$

(2.1

)

$

(9.2

)

$

(2.2

)

 

 

 

 

 

 

 

 

 

 

Income tax expense

 

$

(14.6

)

$

(6.3

)

$

(26.5

)

$

(18.6

)

Net loss (income) attributable to noncontrolling interests

 

$

 

$

 

$

 

$

0.5

 

 

Three Months Ended December 31, 2011 Compared to Three Months Ended December 31, 2010

 

Other Income (Expense). Other expense increased $1.9 million in the three months ended December 31, 2011, when compared to the same period last year, due primarily to increases in interest expense and foreign currency translation losses during the same period. In the three months ended December 31, 2011, losses on foreign currency translation were $0.8 million, when compared to $0.4 million in the same period last year. Interest expense increased $1.5 million in the three months ended December 31, 2011, when compared to the same period last year, due primarily to the increase in long term debt upon entering into the amended and restated credit agreement in April 2011.

 

Income Tax Expense. Income tax expense increased $8.3 million during the three months ended December 31, 2011, when compared to the same period last year, due primarily to the increase in net income. In addition, during the three months ended December 31, 2010, income tax expense was lower due to certain discrete items related to an IRS settlement, other changes in our uncertain tax positions, the reinstatement of the research and development tax credit and deferred tax expense on the repatriation of earnings from our India subsidiary. See Note 7 to the unaudited condensed consolidated financial statements, Income Taxes. The effective income tax rate for continuing operations for the three months ended December 31, 2011 and 2010 was 37.7% and 19.5%, respectively.

 

Six Months Ended December 31, 2011 Compared to Six Months Ended December 31, 2010

 

Other Income (Expense). Other expense increased $7.0 million in the six months ended December 31, 2011, when compared to the same period last year, due primarily to increases in interest expense and foreign currency translation losses during the same period. In the six months ended December 31, 2011, losses on foreign currency translation were $2.9 million, when compared to gains on foreign currency translation of $1.3 million in the same period last year. Interest expense increased $3.1 million in the six months ended December 31, 2011, when compared to the same period last year, due primarily to the increase in long term debt upon entering into the amended and restated credit agreement in April 2011.

 

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Income Tax Expense. Income tax expense increased $7.9 million during the six months ended December 31, 2011, when compared to the same period last year, due primarily to the increase in net income. In addition, during the six months ended December 31, 2010, income tax expense was lower due to certain discrete items related to an IRS settlement, other changes in our uncertain tax positions, the reinstatement of the research and development tax credit and deferred tax expense on the repatriation of earnings from our India subsidiary. See Note 7 to the unaudited condensed consolidated financial statements, Income Taxes. The effective income tax rate for continuing operations for the six months ended December 31, 2011 and 2010 was 37.3% and 27.5%, respectively.

 

Net income (loss) attributable to noncontrolling interests. Net income attributable to noncontrolling interests decreased $0.5 million in the six months ended December 31, 2011, when compared to the same period last year.

 

Financial Condition and Liquidity

 

Working Capital

 

 

 

December 31,

 

June 30,

 

Increase (decrease)

 

 

 

2011

 

2011

 

Amount

 

%

 

 

 

(in 000s)

 

Cash and cash equivalents

 

$

44,922

 

$

66,425

 

$

(21,503

)

(32

)%

 

 

 

 

 

 

 

 

 

 

Total long-term debt, including current maturities

 

$

487,891

 

$

515,403

 

$

27,512

 

5

%

 

 

 

 

 

 

 

 

 

 

Total current assets

 

$

430,910

 

$

473,677

 

$

(42,767

)

(9

)%

Total current liabilities

 

156,514

 

160,616

 

(4,102

)

(3

)%

Net working capital

 

$

274,396

 

$

313,061

 

$

(38,665

)

(12

)%

 

Our net working capital decreased $38.7 million in the six months ended December 31, 2011, when compared to June 30, 2011, and was primarily affected by a $21.5 million decrease in cash and cash equivalents, and a decrease of $23.1 million in prepaid and refundable income tax during the same period. The net decrease in cash and cash equivalents was primarily due to payments on our credit facility and purchases of our common stock under our share repurchase plan. The decrease in prepaid and refundable income tax was due primarily to a cash refund of $12.0 million and a carryforward of an overpayment in fiscal year 2011, offsetting fiscal year 2012 taxes payable.

 

Pursuant to various state gaming regulations, certain cash accounts are maintained to ensure availability of funds to pay wide-area progressive jackpot awards in installments rather than in one lump-sum. At December 31, 2011 and June 30, 2011, these accounts had an aggregate value of approximately $9.8 million and $8.4 million, respectively, which are classified as restricted cash in our unaudited condensed consolidated balance sheets. In addition, we purchase U.S. Treasury Strip Securities for the benefit of jackpot winners who elect to receive winnings in annual or weekly installment payments. These securities are included in restricted long-term investments in the accompanying unaudited condensed consolidated balance sheets, and totaled $13.0 million and $12.5 million as of December 31, 2011 and June 30, 2011, respectively.

 

On December 31, 2011 and June 30, 2011, the amount of cash and investments held by foreign subsidiaries was $19.7 million and $18.2 million, respectively. If these funds are needed for our operations in the U.S., we would be required to accrue and pay U.S. taxes to repatriate these funds.

 

Current and long-term accounts and notes receivable were consistent at approximately $283 million at both December 31, 2011 and June 30, 2011. As of December 31, 2011, our DSO’s decreased to 108 days from 116 days at June 30, 2011.

 

On April 15, 2011, we entered into an amended and restated credit agreement, that provides for a $700 million senior secured credit facility comprised of a $300 million, five-year term loan and a $400 million, five-year revolving credit facility, including a $50 million sublimit for the issuance of standby letters of credit, a $10 million sublimit for swingline loans and a $150 million sublimit for multicurrency borrowings approved under the credit facility.

 

The interest rate on the credit facility is subject to a leverage-based pricing grid based on LIBOR plus a margin between 1.25% and 2.00%. As of December 31, 2011, the interest rate on the revolving credit facility was 2.05% and the interest rate on the term loan was approximately 3.83%, after giving effect to the floating-to-fixed interest rate swaps discussed below.

 

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Effective December 2008, we entered into a floating-to-fixed interest rate swap agreement with an original notional value of $218.8 million and a maturity date of September 26, 2012 to fix floating LIBOR based debt to fixed rate debt at an interest rate of 1.89%. Effective June 2011, we entered into a second floating-to-fixed rate swap agreement with an original notional value of $165.0 million and a maturity date of May 13, 2016 to fix a portion of the floating LIBOR based debt under the new term loan to fixed rate debt at an interest rate of 2.09%. At December 31, 2011 and June 30, 2011, the combined swap agreements had a notional value of $288.8 million and $296.3 million, respectively.

 

Under the credit facility, the term loan requires quarterly principal reductions in an amount equal to 1.25% of the effective date term loan amount, or $3,750,000, through March 2013; an amount equal to 1.875% of the effective date term loan amount, or $5,625,000, through March 2014; an amount equal to 2.50% of the effective date term loan amount, or $7,500,000, from June 2014 until the term loan’s maturity in May 2016 upon when the remaining outstanding principal balance of $187,500,000 is due.

 

The credit facility is collateralized by substantially all of our domestic property and is guaranteed by each of our domestic subsidiaries, excluding any noncontrolling interests, and is secured by a pledge agreement.

 

The fair value of long-term debt is estimated by discounting expected cash flows using current interest rates at which similar loans would be made to borrowers with similar credit ratings and remaining maturities. As of December 31, 2011 and June 30, 2011, the fair value of long-term debt approximated the carrying value.

 

The credit facility contains a number of covenants that, among other things, restrict our ability and certain of our subsidiaries to dispose of assets, incur additional indebtedness or issue preferred stock, pay dividends or make other distributions, enter into certain acquisitions, repurchase equity interests or subordinated indebtedness, issue or sell equity interests of our subsidiaries, engage in mergers or acquisitions or certain transactions with subsidiaries and affiliates, and that otherwise restrict corporate activities.

 

The financial covenants under the credit facility consist of a leverage ratio and an interest coverage ratio. The leverage ratio is computed as total debt outstanding at the end of the quarter divided by the trailing twelve months Earnings Before Interest, Taxes, Depreciation and Amortization (“EBITDA”), excluding certain cash and non-cash charges. The interest coverage ratio is computed as EBITDA for the trailing twelve months divided by the trailing twelve months of interest charges.

 

A breach of any of the covenants or the inability to comply with the required financial ratios could result in a default under the credit facility. In the event of any such default, the lenders could elect to declare all borrowings outstanding under the credit facility, together with any accrued interest and other fees, to be due and payable. If we were unable to repay the indebtedness upon its acceleration, the lenders could proceed against the underlying collateral. We were in compliance with all of the credit facility covenants as of December 31, 2011 and June 30, 2011.

 

As of December 31, 2011, there was approximately $199.8 million of undrawn availability under the revolving credit facility. Availability under the revolving credit facility is reduced to the extent of outstanding letters of credit.

 

Management believes that cash flows from current operating activities will provide us with sufficient capital resources and liquidity to operate our business for at least the next 12 months.

 

At December 31, 2011, we had no material commitments for capital expenditures.

 

Cash Flow Summary

 

Our primary sources of liquidity include existing cash and cash equivalents, cash flows from all operating activities and the availability of funds under our revolving credit facility.

 

We utilize our cash to acquire materials for the manufacture of goods for resale, to pay payroll, operating expenses, interest, and taxes and to fund R&D activities.

 

Cash flows provided by continuing operating activities were $61.9 million in the six months ended December 31, 2011, as compared to $29.0 million in the same period last year, a $32.9 million increase. Cash flows from operating activities of continuing operations for the six months ended December 31, 2011 were positively affected by decreases in prepaid and refundable income tax due primarily to a refund of $12.0 million in prior taxes paid and an increase in deferred revenue.

 

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Table of Contents

 

Cash utilized for investing activities from continuing operations is primarily for capital expenditures related to furniture, fixtures, office and gaming equipment and improvements in leaseholds, financing arrangements with customers and investments in technology and other long-term assets. During the six months ended December 31, 2011 and 2010, we made capital expenditures of $3.9 million and $5.2 million, respectively. During the six months ended December 31, 2011, we made payments of $6.0 million related to an acquisition. During the six months ended December 31, 2010, we provided $9.9 million in loans to finance gaming opportunities to separate customers.

 

Cash utilized for financing activities from continuing operations is primarily for the payment of principal on our debt and the purchase of shares of our common stock. We made payments of $27.5 million on our credit facility, and purchased 1.4 million shares of our common stock for $41.8 million during the six months ended December 31, 2011. We made payments of $20.0 million on our credit facility and purchased 1.2 million shares of our common stock for $42.3 million during the six months ended December 31, 2010.

 

Cash provided by financing activities is primarily from proceeds from the exercise of stock options and purchases of stock under our 2008 Employee Stock Purchase Plan (the “2008 ESPP”), borrowings under our revolving credit facility, and excess tax benefits of stock option exercises. During the six months ended December 31, 2011, employees exercised options for 157,135 shares of common stock for $3.0 million and purchased 40,085 shares of common stock for $1.2 million under our 2008 ESPP. We did not borrow any amounts under our revolving credit facility during the six months ended December 31, 2011. During the six months ended December 31, 2010, employees exercised options for 175,862 shares of common stock for $3.1 million and purchased 32,470 shares of common stock for $1.0 million under our 2008 ESPP. In addition, we borrowed $19.9 million under our revolving credit facility during the six months ended December 31, 2010.

 

Critical Accounting Policies

 

A description of our critical accounting policies can be found in Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations in the 2011 10-K. There were no material changes to those policies during the six months ended December 31, 2011.

 

Other Recently Issued Accounting Pronouncements

 

For a description of other recently issued accounting pronouncements, see Note 1 to the unaudited condensed consolidated financial statements, Description of Business and Summary of Significant Accounting Policies.

 

ITEM 3.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

Interest Rate Risk

 

As of December 31, 2011, we had total debt outstanding of approximately $487.9 million which consisted primarily of a $288.8 million term loan and $199.0 million of borrowings under our revolving credit facility. We have minimized our exposure to market interest rate risk because the variable interest rate on the term loan was effectively converted to a fixed rate as a result of the floating-to-fixed interest rate swaps discussed in Note 4 to the unaudited condensed consolidated financial statements, Long-Term Debt. As of December 31, 2011, the interest rate on the revolving credit facility was 2.05% and the interest rate on our term loan was approximately 3.83%, after giving effect to our interest rate swaps.

 

Foreign Currency Exchange Rate Risk

 

Certain of our foreign subsidiaries use their local currency as their functional currency and are exposed to risks resulting from fluctuations in foreign currency exchange rates. During the three months ended December 31, 2011 and 2010, we recognized foreign currency exchange rate losses of approximately $0.8 million and $0.4 million, respectively. During the six months ended December 31, 2011 and 2010, we recognized a foreign currency exchange rate loss of approximately $2.9, million and a foreign currency exchange rate gain of approximately $1.3 million, respectively. We estimate that a hypothetical 10% strengthening (or weakening) of the U.S. dollar for fiscal 2012 would have an immaterial impact on our business.

 

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Table of Contents

 

In addition, the net assets of these subsidiaries are exposed to foreign currency translation gains and losses which are included as a component of accumulated other comprehensive income in stockholders’ equity in our unaudited condensed consolidated balance sheets. Such translation resulted in unrealized losses of $3.2 million as of December 31, 2011, and unrealized gains of $0.9 million as of December 31, 2010.

 

We may enter into foreign currency forward contracts, generally with maturities of twelve months or less, to hedge recognized foreign currency assets and liabilities to reduce the reduce the risk that earnings and cash flows will be adversely affected by changes in foreign currency exchange rates. See Note 1 to the unaudited condensed consolidated financial statements, Description of Business and Summary of Significant Policies (Fair value of financial instruments).

 

ITEM 4.

CONTROLS AND PROCEDURES

 

Evaluation of Disclosure Controls and Procedures

 

As required by Rule 13a-15(b) promulgated under the Exchange Act, our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Exchange Act Rule 13a-15(e) and 15d-15(e) as of the end of the period covered by this report.

 

Based on this evaluation our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of December 31, 2011.

 

It should be noted that any system of controls, however well designed and operated, can provide only reasonable and not absolute assurance that the objectives of the system will be met. In addition, the design of any control system is based in part upon certain assumptions about the likelihood of future events. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, have been detected or that judgments in decision-making are not based on faulty input.

 

Changes in Internal Control Over Financial Reporting during the Quarter Ended December 31, 2011

 

Although we update our internal controls as necessary to accommodate any modifications to our business processes and accounting procedures as part of our normal operations, there were no changes in our internal control over financial reporting that occurred in the three months ended December 31, 2011 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

PART II

 

ITEM 1.

LEGAL PROCEEDINGS

 

For a description of our legal proceedings, see Note 8 to the unaudited condensed consolidated financial statements, Commitments and Contingencies, which is incorporated by reference in response to this item.

 

ITEM 1A.

RISK FACTORS

 

We are subject to risks and uncertainties that could cause our actual results to differ materially from the expectations expressed in the forward looking statements. Factors that could cause our actual results to differ from expectations are described under “Item 1A. Risk Factors” in the 2011 10-K, to which there were no material changes during the period covered by this Quarterly Report on Form 10-Q.

 

ITEM 2.

UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

On April 4, 2010, the Company’s Board of Directors approved a new share repurchase plan under which, subject to price and market conditions, purchases of shares of common stock can be made from time to time in the open market or in private negotiated transactions using available cash, in an aggregate amount of up to $150 million. On April 6, 2011, the Company’s Board of Directors increased the share repurchase plan amount to an amount equal to $550 million minus the amount repurchased in the Company’s Dutch auction tender offer described under “Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities” in the 2011 10-K.

 

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Table of Contents

 

Our quarterly share repurchases under this plan, excluding treasury shares acquired in non-cash transactions related to forfeited stock awards and shares exchanged for options exercised, were as follows:

 

Period

 

Total
Number
of Shares
(or Units)
Purchased

 

Average Price
Paid Per
Share
(or Unit)

 

Total Number of
Shares
(or Units) Purchased
as Part of Publicly
Announced
 Plans or Programs

 

Maximum Number
(or Approximate Dollar
Value)
of Shares (or Units)
That May Be Purchased
Under the Plans or Programs

 

 

 

 

 

 

 

 

 

$

120,690,333

 

October 1 - October 31, 2011

 

189,309

 

$

26.23

 

189,309

 

$

115,724,317

 

November 1 -  November 30, 2011

 

138,700

 

$

35.56

 

138,700

 

$

110,792,224

 

December 1 — December 31, 2011

 

1,800

 

$

36.01

 

1,800

 

$

110,727,406

 

Total

 

329,809

 

$

30.21

 

329,809

 

 

 

 

ITEM 6.                             EXHIBITS

 

Exhibits

 

Description

 

 

 

31.1

 

Certification of Chief Executive Officer, pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended.

 

 

 

31.2

 

Certification of Chief Financial Officer, pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended.

 

 

 

32.1

 

Certification of Chief Executive Officer, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002.

 

 

 

32.2

 

Certification of Chief Financial Officer, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to section 906 of the Sarbanes-Oxley Act of 2002.

 

 

 

101.INS

 

XBRL Instance Document *

 

 

 

101.SCH

 

XBRL Taxonomy Extension Schema Document *

 

 

 

101.CAL

 

XBRL Taxonomy Extension Calculation Linkbase Document *

 

 

 

101.DEF

 

XBRL Taxonomy Extension Definition Linkbase Document *

 

 

 

101.LAB

 

XBRL Taxonomy Extension Labels Linkbase Document *

 

 

 

101.PRE

 

XBRL Taxonomy Extension Presentation Linkbase Document *

 


*

 

Pursuant to applicable securities laws and regulations, the Company is deemed to have complied with the reporting obligation relating to the submission of interactive data files in such exhibits and is not subject to liability under any anti-fraud provisions of the federal securities laws as long as the Company has made a good faith attempt to comply with the submission requirements and promptly amends the interactive data files after becoming aware that the interactive data files fails to comply with the submission requirements.  Users of this data are advised that, pursuant to Rule 406T, these interactive data files are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933, as amended, or Section 18 of the Securities Exchange Act of 1934, as amended, and otherwise are not subject to liability.

 

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Table of Contents

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

BALLY TECHNOLOGIES, INC.

Date: February 9, 2012

 

 

 

 

 

By

/s/Richard Haddrill

 

 

Richard Haddrill

 

 

Chief Executive Officer

 

 

(Principal Executive Officer)

 

 

 

 

 

 

 

By

/s/Neil P. Davidson

 

 

Neil P. Davidson

 

 

Senior Vice President, Chief Financial Officer and Treasurer

 

 

(Principal Financial and Accounting Officer)

 

 

37